January 2003

Table of Contents

Cal-Tax Home

Email Editor

Cal-Tax Commentary 

This report on the governor’s proposed 2003-04 state budget was prepared by Cal-Tax’s David R. Doerr, Lisa Martin and Ron Roach. Cal-Tax’s comprehensive examination of the budget, first published in the January 17 edition of Caltaxletter, is merited by the magnitude of the state’s fiscal crisis and discussion of numerous potential tax increases.

Governor Gray Davis’ proposed $96.4 billion state budget for 2003-04 is calling for major tax increases and significant spending cuts in a number of programs. As expected, it has not been well received, either by taxpayers or by the spending lobby.

The lynch-pin for the proposed budget, released January 10, is the administration’s estimated $34.6 billion budget gap. In her review of the spending plan, released five days later, Legislative Analyst Elizabeth Hill anticipates a deficit in the range of $26 billion for the same 18-month period, through June 2004.

Her explanation of the difference: About $3 billion represents a difference in revenue forecasts (the governor sees a big dive in revenue). The remaining gap, about $5.5 billion, represents differences over what should be included in projected spending growth. The administration has included additional spending that would be required to achieve the administration’s policy goals as well as proposals that have not yet been adopted, the analyst said.

The spending plan seeks over $9 billion in direct tax and fee increases and actions that could trigger $3.4 billion more.

Major cuts are made in such programs as education, health and welfare, and the governor’s pet Traffic Congestion Relief Fund by taking sales tax money earmarked by voters for transportation. Subventions to local governments are also cut drastically.

Not all programs and departments suffered cuts. The Department of Finance, which prepares the budget, will get a small increase. The Legislature’s budget is proposed to grow by $8 million (over 4 percent, which is faster than inflation). The governor’s office budget is also up slightly.

DIRECT TAX AND FEE INCREASES

In his 2003-04 budget, Governor Davis has proposed these significant tax and fee increases:

Sales Tax. Increase the sales tax rate by 1 percent, to raise $4.584 billion.

Personal Income Tax. Add 10 percent and 11 percent brackets to raise $2.58 billion. They would affect those with adjusted gross incomes of at least $136,115 for single filers and $272,230 for joint filers. The current top rate is 9.3 percent. Governor Davis said the tax increase will be retroactive, applying the higher rates to income earned in 2003 prior to the passage of legislation increasing the rates.

Tobacco Tax. Increase the state excise tax on tobacco products, including an additional $1.10 per pack of cigarettes, which would bring the tax to $1.97 per pack, raising $1.17 billion. The cigarette tax increases will trigger commensurate increases in the excise tax on other tobacco products, such as cigars, pipe tobacco and smokeless tobacco.

Regulated Investment Companies (RIC). Prohibit banks from using RICs “to avoid California tax,” according to the governor’s budget summary. Implemented prospectively, the proposal would increase revenues by $45 million in 2003-04 and by $55 million in 2004-05. This proposal was pushed by Franchise Tax Board staff at the board meeting last November.

Subpart F Income. Change existing law to disallow certain corporations from excluding Subpart F income from a water’s-edge combined report. The budget also would conform to federal law in the coordination of Subpart F income and U.S.-source income. “Because these proposals would clarify existing law, they will have no effect on revenues,” the governor’s budget summary stated. Taxpayers believe this could increase revenue up to $50 million. This proposal is similar to AB 1469 (Ortiz) of 1998, which was vetoed by Governor Pete Wilson.

Manufacturers’ Investment (Tax) Credit. Extend the MIC, which the governor’s budget summary said would expire on January 1, 2004, with a revised manufacturing employment threshold provision. The governor proposes to limit MIC application to manufacturing activities as specified in the Standard Industrial Code, which would increase revenues by about $50 million a year. This is an attempt to undo the precedent established by the State Board of Equalization’s recent SaveMart decision. The BOE qualified a bakery (manufactured food) operation of a grocery store chain for the MIC.

The budget estimates that the creation of 100,000 new manufacturing jobs to maintain the 6 percent tax credit on purchases of qualified manufacturing equipment will not be met this year. That threshold was more than achieved soon after the 1994 enactment of the MIC, and the governor’s budget noted that through January 2001, manufacturing employment in California outpaced the nation. However, on January 1, 2002, the number of manufacturing jobs was 1.69 million, slightly above the 1994 threshold of 1.54 million. (Editor’s note: We are not scoring the continuation of the MIC as a tax reduction. It does not affect the 2003-04 budget. Allowing it to expire would increase taxes in 2004-05.)

Phone Tax. Impose a surcharge on intrastate telephone calls of one-quarter of 1 percent, raising $30 million a year for public safety programs.

Pollution Fees. Increase “polluter pays” fees by $34 million. In the Department of Pesticide Regulation, the mill assessment would be increased by $7.5 million by shifting all support for the department away from the state general fund. Increased Air Pollution Control Fund fees would enable the state to shift $10 million in support for the Air Resources Board to “polluters” to fund the stationary source pollution control program. Increased fees in the Waste Discharge Permit Fund would replace $13.6 million in general fund dollars used to support the State Water Resources Control Board. An additional $1 million will come from a hike in pesticide licensing and exam fees and $2 million from greater collection efficiencies.

Motor Vehicle Fees. Increase annual vehicle registration fees by $7. This includes a $3 increase in the basic registration fee and $2 increases in each of two California Highway Patrol vehicle registration surcharges. The impact of the budget on the vehicle license fee (car tax) is discussed below.

Court Fees. Increase court filing fees to provide $35 million a year to offset general fund support. A security fee of $20 per court filing would be imposed, and trial motion fees are proposed to be increased by $10 (from $23 to $33). An increase in the appellate filing fee from $265 to $630 will generate $2.1 million more.

Driver’s License Fee. Increase the non-commercial driver’s license fee up to $24 for a five-year license, to raise $30 million.

DMV Fees. Increase specified Department of Motor Vehicles fees and penalties. Standardizing DMV fees is expected to raise $16 million. Increasing the identification card fee to $20 (it will still be free to seniors) raises $9 million. Activating the Business Partner Automation Fee at $3 will generate $2 million. Establishing additional penalties for failure to file transfer-of-title documents brings in an additional $11 million.

Motor Vehicle Weight Fee. Increase the motor vehicle weight fee to generate revenues anticipated when SB 2084 (Polanco) of 2000 was passed. The fee increase is expected to produce $165 million in 2003-04.

Emergency Telephone (911) User Tax. Increase the Emergency Telephone Number User Tax by enlarging the fund by $51 million, which triggers a commensurate increase in the tax. The tax is set annually by the State Board of Equalization to fund the cost of the “911” program.

Park Fees. Increase fees for various state park services, beginning January 1, 2003. This is estimated to generate $20 million.

Hunting and Fishing License Fees. Increase hunting and fishing licenses by $4 million. Resident sport fishing licenses would increase by $2 (to $31.25) and resident hunting licenses would increase by $1.75 (to $31.25). Fees for non-residential and commercial sport fishing and hunting also would increase.

Revise Real Estate Withholding Provisions. Revise last year’s real estate withholding program (AB 2065, Oropeza) to allow an option of withholding 3.33 percent of the sales price on specified real estate transactions (current law) or 9.3 percent of the gain on the sale (proposed to be added). This is the only tax reduction provision proposed, reducing revenue by $30 million.

Community College Fees. Increase community college fees in 2003-04 by $13 a unit (from $11 to $24). This increases revenue by $149 million. The governor argues that even with the fee increase, community college students will pay only 40 percent of the national average.

Care Facilities Fees. Double the fee on licensed child care facilities, assess a $45 fee on foster family agencies for each home that an agency oversees, and increase by 25 percent all other fees for licensed child residential, adult care and senior care facilities. These increases are expected to generate $6.8 million.

State Library Fee. Authorize the state library to impose a user fee (through a state library card, for example) to raise $3 million.

Political Reform Audit Fee. Shift $1.359 million of the cost of political reform audits by the Franchise Tax Board from the general fund to a fee-based allocation. The budget is silent on the amount of the fee necessary.

Medical Licenses Surcharge. Impose a surcharge on various medical licenses required under the family physician training program, to generate $4.5 million.

Veterans’ Home Fee. Increase the member fees in residential care units of veterans’ homes, to raise $1.15 million.

Workers’ Compensation Administrative Costs. Shift funding for support of the Department of Industrial Relations’ workers’ compensation programs to 100 percent user funding. This is estimated to shift $73.7 million in costs to employers.

Unclaimed Property Fee. Charge a processing fee for unclaimed property refunds, to generate $3 million.

Earthquake Premiums Fee. Impose an earthquake premiums fee to address Seismic Safety Commission revenue needs, to generate $1.3 million.

POTENTIAL INDIRECT TAX AND FEE INCREASES

While not directly proposing certain tax and fee increases, expenditure cuts proposed could result in tax and fee increases, as follows:

Vehicle License Fee. The budget proposes to eliminate the subvention to local government for the revenue loss by imposing the VLF at .65 percent (current rate) rather than 2 percent (pre-1998 rate). This action has provoked howls of protest from cities and counties and is likely to result in the tax being increased back to 2 percent. Such action would increase the taxes on vehicle owners by $2.929 billion, assuming a July 1 effective date.

Democratic leaders in the Legislature have agreed to reject the governor’s proposal and will seek to increase the VLF back to 2 percent, the Stockton Record reported on January 15. A counties’ lobbyist said Senate President Pro Tem John Burton has agreed to carry a bill. Senator Don Perata said, “We made a commitment to the cities and counties and we’re going to live up to it.” Assembly Speaker Herb Wesson said the VLF increase would be part of a “balanced” plan. Democrats think they can trigger the increase by a majority-vote bill. Republicans are opposed to a VLF increase. Assembly Minority Leader Dave Cox said a majority-vote proposal represents an “extreme level of arrogance” because the Constitution requires a two-thirds vote for tax increases.

Senator Tom McClintock said, “If the Democrats want an all-out tax revolt, tripling the car tax is the quickest way to do it.”

The governor, speaking to the Sacramento Press Club on January 16, said he didn’t want to throw down the gauntlet but a VLF increase would be unnecessary because his budget plan contains the “appropriate mix” of taxes and cuts. “I see no reason to depart from my plan. I’ll fight for my plan. It is balanced and responsible. It gets the job done …” He said he abandoned the VLF as a revenue source because he found that counties would get $1.5 billion out of it with no strings attached. He said he wants counties to “share in the bad times” by having to tighten belts after doing well in recent good years. “I want them to be part of the solution,” he said.

CSU Student Fees. The governor’s budget contemplates that the California State University Board of Trustees will increase student fees by $258.5 million to offset state general fund reductions. If approved, this will increase undergraduate fees by 25 percent (by $394 to a total $1,968). This fee increase is on top of the $144 to $288 fee increase in December (see Caltaxletter of December 20).

University of California Student Fees. The University of California Board of Regents will consider increasing student fees by 35 percent later this spring in response to proposed state general fund reductions. According to UC President Richard Atkinson, the university will lose $300 million in state funding.

The fee increases will cover $179 million of the shortfall, according to a UC press release. According to the university, the additional fee increases in 2003-04 will be $795 for resident undergraduates (to $4,629) and $855 for resident graduate students (to $4,869). These increased fees are in addition to the $405 annual fee voted one month ago.

Students reacted negatively to the news. “There’s one group that wants to storm the regents’ meeting and cause holy hell,” said Alex Arteaga, director of legislative affairs for the UC Students Association.

Local Library Fee. Local libraries would be authorized to impose fees to cover costs relating to obtaining certain books, to raise $12 million. Libraries could charge $1 for a book a reader obtained outside their home county and $5 for a book that has to be sent from another county to the reader’s home county. Some observers said it may be cheaper to buy a used book from Amazon.com rather than pay a $5 borrowing fee.

“The idea of these fees violates the fundamental philosophy of public libraries. I think the public would be outraged,” said Alameda County Librarian Linda Wood.

SUMMARY OF SIGNIFICANT TAX AND FEE INCREASES

LAO DISPUTES SIZE OF DEFICIT

Legislative Analyst Hill suggests that budget savings in the governor’s budget are overstated, both in baseline costs and program savings in numerous areas. Explaining the difference between her $21.1 billion deficit estimate of November and the $26 billion she expects to be in her comprehensive analysis next month, Ms. Hill said she sees a $4 billion deterioration in revenues since the November estimate and a $1 billion increase in spending to cover needed workload. This still leaves her projected deficit about $8 billion below the governor’s figure.

Meanwhile, an analysis from the Anderson Center for Economic Research at Chapman University in Orange County pegs the deficit at only $5.9 billion, The Orange County Register reported January 14. The Chapman analysis counted both special funds (such as fuel taxes) and general fund, while the governor’s Department of Finance counted general fund money. According to The Register, the Chapman report criticized the Davis administration for counting money that it expected but did not have as a deficit, which helps inflate figures. Chapman College President James Doti said, “There’s a fear factor here that we’re going to have to cut $34.6 billion.” Responding for the governor, Department of Finance spokesperson Anita Gore said the state must “look at it prospectively because we’re putting out a balanced budget for the upcoming fiscal year.” Senator Dick Ackerman, a Republican on the budget-writing committee, told The Register: “One of the things about economists is they have a lot of different ways to look at the same set of facts. But I think their analysis is good and I’m going to use it.”

Governor Reacts. Governor Davis, appearing before a gathering of newspaper publishers on January 15, downplayed the difference in estimates. He said he hoped the analyst was correct, because it would reduce the size of the problem, and chastised “anybody who tries to play politics with the numbers.” A day later, at the Sacramento Press Club luncheon, he said that the legislative analyst was “a little more bullish” in her revenue estimates and he preferred to use the UCLA economic forecast for guidance.

He also said Ms. Hill was technically correct when she said he had made cuts from spending that was not legally required. However, the governor said he was following a process observed by governors over the past two decades that is “honest and straightforward.” He said it would be wrong not to “recognize all of our obligations, whether in statute or in practice.” For example, he said the University of California would not receive $100 million in his budget for teacher training, but he is counting it as a budget reduction because to do otherwise would be to “pretend it doesn’t exist.”

New State Finance Chief Comments. Steve Peace, former state senator who is taking over this month as the governor’s finance director, defended the administration’s accounting procedures and predicted that the Department of Finance and the legislative analyst would “be on the same page” by May, when the next economic forecast is due and the governor’s budget is revised to conform to new numbers. In any event, he said, “we don’t think you can responsibly close this gap without some revenue component.”

GOP Response. John Campbell, Assembly Republicans’ lead budget-writer: “The governor deliberately inflated the size and scope of the budget deficit in order to mislead working California families that taxes must be raised.”

LOCAL GOVERNMENT FUNDING

Elimination of Subventions. The budget shifts $5.1 billion from local government to produce state general fund savings, primarily the elimination of about three-fourths of the state’s backfill for VLF revenue losses, the elimination of open-space subventions and booking fee reimbursements, according to the LAO.

Among the cuts to local government is the elimination of the VLF backfill (see above) that saves the state $2.929 billion in the budget year and $1.265 billion in the current year. In addition, the $39 million subvention to counties for property tax losses as a result of the farmland preservation Williamson Act is revoked, and the $38.2 million reimbursement to cities and districts for jail booking fees paid to counties would be canceled.

Reimbursements for state mandates are being delayed (creating a forced interest-free loan from local jurisdictions to the state of around $1.2 billion). State highway subventions to local government are also being reduced.

Powerful grass-roots lobbying including the California Police Chiefs Association, cities and counties and other elements of the spending lobby accused the governor of breaking a promise to restore the VLF (property tax on motor vehicles) to 2 percent if the state could no longer replenish local treasuries with the $4 billion they lose from the reduced car tax. “This is no time to put public safety at risk,” declared the coalition of law enforcement and local bureaucrats.

Reaction from local officials to the cuts was uniformly negative. Los Angeles County will lose $663 million over the next 17 months under the governor’s proposal, Supervisor Zev Yaroslavsky called the budget a “diabolical scheme,” according to the Pasadena Star-News. Supervisor Gloria Molina: “We are going to fight like hell.”

San Diego Mayor Dick Murphy said the $75 million in cuts to the city put it in a “potentially drastic situation.” The city immediately imposed a hiring freeze and is looking at potential layoffs of 500 city workers, the San Diego Union-Tribune reported. In Santa Clara County, officials told the San Jose Mercury News that, with the cuts, the county faces a $120 million budget shortage. Supervisor Blanca Alvarado said, “It is going to break our hearts.” Sheriff Laurie Smith said that if she had to cut $5 million to $8 million, 23 percent of her deputies would have to be laid off.

Los Angeles Mayor James Hahn said the city will lose $70 million this year and $175 million next year as a result of the cuts, and city officials warned of service reductions and layoffs, the Los Angeles Times reported. The mayor also said his plans to reform the business tax system are jeopardized.

Steve Kawa, San Francisco Mayor Willie Brown’s deputy chief of staff, said, “By historical magnitude, I believe this is the worst budget crisis we’ve been in probably since World War II.” With the cuts in the governor’s budget added to an existing structural deficit, the city is looking at a $320 million budget gap. The San Francisco Chronicle said the mayor will begin efforts to close the gap by asking supervisors to increase parking fines, eliminate 63 jobs and trim $7 million from road repairs.

Actions taken in Oxnard this week capsulate one of the reasons for government fiscal problems. In view of the pending cuts, eyebrows were raised when the Oxnard City Council, which is facing a $10 million slash in its VLF subvention, agreed on January 14 to spend $734,000 to buy a supplemental retirement plan for its employees. The Ventura County Star reported that several residents spoke against the plan. Ventura Fernandez, chair of the Southwinds Council, said the city’s top managers already earn good retirement benefits. The council also voted to give City Manager Ed Sotero, who makes $148,000, a 6 percent raise this year and another next year.

Redevelopment. For city and county redevelopment agencies, the budget proposes to shift $750 million of their property tax to schools. This means that the state has to make $750 million less in school subventions. In 2002-03 cuts announced in December, the governor proposed shifting $500 million. For 2003-04, the budget proposes shifting $250 million more. The shift will be increased gradually each year thereafter until it reaches the amount of property taxes diverted from schools by redevelopment agencies.

Some cities are taking steps to shield some of this revenue. The San Bernardino Sun reported (January 8) that the Highland City Council voted to order the Highland Redevelopment Agency to pay back more than $3 billion it owes to the city. According to the Sun, “It’s a move that officials in Highland and other cities hope will work to shield money from a feared state grab by showing the funds are already spoken for and unavailable to the state.” Other cities are also obligating redevelopment funds.

Redwood City (San Mateo County) took action last week, according to the San Jose Mercury-News, to loan its redevelopment agency $20 million with the agency’s income earmarked to repay the loan. The city believes tying up revenues by a contract will prevent the state from taking the money. Palo Alto City Manager Frank Benest said if the goal is to rebuild California’s economy, “to cut the knees out from redevelopment is shortsighted.”

STRUCTURAL REFORM: MORE BAD NEWS FOR TAXPAYERS?

In addition to tax and fee increases in his budget, Governor Davis is calling for structural fiscal reform. “California can no longer support critical public services with an obsolete fiscal blueprint,” he said.

Critics have lambasted the revenue structure lately for its volatility and failure to sustain double-digit increases of the late 1990s.

Taxpayers can expect the restructuring discussions to revolve around removing taxpayer protections provided by Proposition 13, extending the sales tax to services, and eliminating sitis-based allocation of local sales tax. The budget states, “Property tax revisions, such as changing the manner in which commercial properties are reassessed, might provide improved fiscal incentives for local governments to address local needs.” At the Press Club luncheon, the governor specifically said the split roll is on the table for discussion.

The governor told the luncheon audience that while expanding the sales tax base to tax services has not worked in other states, it remains on the table for discussion, among other possibilities. Included would be sequestering a budget reserve so that it could not be spent until the state has had three good years in a row, and then the money could only be used for capital projects.

“We cannot get ahead of our primary task” of balancing the budget but “I will not sign a budget unless there is substantial tax structure reform,” he told the press club gathering. The peaks and valleys must be shaved off the tax structure, he reiterated.

SALES TAX DEVELOPMENTS

Another Sales Tax Hike in 2004? The Los Angeles Times reported that an additional sales tax hike of $900 million a year could be in the wings. Citing a memo from the Department of Finance to the Legislature, the 1 percent hike proposed for this year would be adjusted to 1.125 percent starting next year. According to The Times (January 14), the extra sales tax hike would be needed to offset lower revenues from personal income taxes. Increasing the top PIT brackets is expected to raise $2.5 billion this year, but the take would fall to $1.8 billion in 2004, for a variety of complex reasons. (Editor’s note: Because some wealthy Californians can be expected to move out of the state rather than have their incomes “soaked,” the state can expect a dip in PIT revenues. History has shown this to be the case, with the Department of Finance overestimating revenues in 1991-92 when higher brackets were temporarily in place.)

The Times quoted Finance Director Tim Gage as saying that while he had not seen the memo, the possibility of raising the sales tax an additional .125 percent is “one of the possible approaches” being considered by the administration to make sure the package of tax hikes yields $8.2 billion.

The Times reported January 15 that Governor Davis distanced himself from the proposal. “This matter was never brought to my attention,” the governor said. “I am totally opposed to any additional increase in my sales tax proposal. I’ve already proposed one penny. That’s what it is.”

As The Times reported, it left unanswered the question of how the administration would make up for any future shortfall in income tax revenue.

More Trips to Oregon Likely. While California taxpayers are stoic or unhappy with the governor’s call for an increase in the sales tax rate, merchants in southern Oregon are happy. It is easy for residents of Del Norte, Siskiyou and Modoc counties to drive north to purchase their goods tax free (Oregon has no sales tax). The larger the differential, the greater the incentive. Even many northern Californians who like to see plays in Ashland or vacation in an area with spectacular scenery will take advantage of the tax disparity to do some shopping.

Siskiyou County Supervisor Bill Hoy told the San Francisco Chronicle that California’s high sales tax has had a “tremendous impact” on the county. “You ought to look at our empty storefronts throughout the county,” he said. For example, Cory Hoffland of Montague in Siskiyou County figured she saved $300 by buying her computer and software in Oregon.

Reaction to the sales tax hike from a number of California shoppers was not positive, either. Ian Nichols of Windsor (Sonoma County) told the Santa Rosa Press Democrat, “I think it’s a bunch of bull.” Lisa Reed, owner of Epiphany Musical Instruments in Santa Rosa, said, “Everyone considers tax when they purchase something here.” In downtown Santa Barbara, the News Press reported that with rare exception, shoppers said they don’t want to pay any more in sales tax. Laura Garza of Santa Maria, who had just purchased a child’s rocking chair at a thrift store, said, “That’s ridiculous.” Santa Barbara City College nursing student Amanda Hardin told the paper the state wastes too much money and questioned the need for raising taxes.

Impact on a New Car Purchase. Californians looking to purchase a new car would find more sticker shock than expected. If the sales tax rate is increased by 1 percent and the VLF is raised back to 2 percent, a $20,000 new car will cost an additional $470 in taxes. Auto dealers said the big tax increase would depress sales of motor vehicles this year. This could have a negative impact on existing sales tax revenue. With these tax increases, the total tax bite on purchases of a new $20,000 car would be around $2,200.

INDIAN GAMBLING

According to a Copley News Service report (January 14), the governor’s reliance on Indian tribes to set aside more of their gambling profits to help poor tribes and to pay for local government services can be expected to result in many more slot machines at tribal casinos. Technically not a tax, since states cannot tax Indian reservation activities, the budget calls for renegotiated gaming compacts that would provide about 25 percent of gross receipts – as much as $1.5 billion – as “revenue sharing arrangements.” Of the governor’s plan, Indian gaming money is part of $5.7 billion that would be realized from fund shifts, including university student fees, and loans, closing 16 percent of the budget gap.

The governor told the press club luncheon that Cruz Reynoso, a former state Supreme Court justice, will lead his negotiating team as gambling compacts with the tribes are scheduled to be redone this year. He said he is convinced that the tribes will recognize that “sovereignty is a two-way street” and agree to set aside $1.5 billion of their $5 billion-a-year take from casinos to help California overcome its budget woes. It is a legitimate price for the privilege of doing business in the state, he said. In response to questions, he said he would not approve an expansion of Indian casinos to urban areas but would be open to allowing more slot machines (tribes are now limited to 2,000 machines per tribe) if need is shown and the casino expansion can be done within appropriate reservation environment. “It is in their best interests to be good neighbors, which most have been,” he said.

SPENDING CUTS

The governor said spending cuts account for 60 percent of the $34.6 billion solution. Program reductions, he said, amount to $20.7 billion. “Nearly every program gets cut in this budget, while protecting education and health care for children as much as possible.”

Realignment. The governor proposes to reduce the state budget by $8.2 billion by shifting specified health and welfare costs to counties. The revenues raised by the sales, income and cigarette tax hikes are to be placed in a special fund and will be given to counties to pay for these programs. Shifted from the state to local government would be such programs as mental health, substance abuse, child and youth programs, healthy communities, long-term care and court security. This maneuver prevents the additional revenue from the added taxes on income, sales and tobacco from going into the state general fund, where education would automatically grab a significant portion under the Proposition 98 education funding guarantee.

County officials are concerned that the growth in the new revenues won’t match the cost increases in the transferred programs. “You can’t put three gallons of water in a two-gallon flask,” Supervisor Yaroslavsky said.

Education. The state’s schools take a major hit, although funding for K-12 education is a somewhat confused picture, due to Proposition 98 and changes in current-year as well as budget-year allocations. Media accounts of the impact, furnished by educators who are fighting the proposal, are portraying the budget proposals as extremely damaging.

The governor’s proposed Proposition 98 allocation of funds to K-12 schools for 2003-04 is above the revised 2002-03 amount, but significantly lower than the $41.6 billion originally budgeted for 2002-03. This amount is being reduced to $39.4 billion. Then for 2003-04, the budget proposes Proposition 98 spending of $40 billion.

Community college Proposition 98 funding drops from $4.8 billion in last year’s budget to $4.1 billion in 2003-04. This is partly offset by fee increases as described above. (To confuse things even more, the funding tables for schools includes moderately growing property tax revenues, so state dollars are even less.)

California Teachers Association President Wayne Johnson said the “drastic budget cuts in the middle of the school year will deny our kids the education they deserve.” The teachers’ union launched a massive statewide television ad campaign to dissuade the Legislature from making the cuts. The Legislative Analyst’s Office said it will be difficult to absorb a mid-year cut of this size, especially because the governor’s proposal requires districts to meet current requirements of programs. For example, while the proposal reduces class-size funding by $180 million, it maintains the 20-student limit on class size.

The governor’s proposals will force the Los Angeles Unified School District, largest in the state, to reduce spending by $480 million over the next 18 months, the Los Angeles Times reported. Class sizes may increase and adult education and magnet schools may have to be cut, officials said. Joseph Zeronian, district chief financial officer, said, “This school district is probably going to be hit harder than any other school district in the state. It’s a very sad moment.” He may be unaware of the impact on basic aid school districts, however (see below).

According to the San Francisco Chronicle and the San Jose Mercury-News, fine print in the budget that has largely gone unnoticed proposes taking property tax revenue from 59 basic aid school districts (about half of them in the Bay Area) to help balance the state’s budget. The budget seeks to redirect $126.2 million of the $160 million estimated amount of property tax allocated to the 59 districts in excess of revenue limits. The basic aid districts would also lose $17.8 million in basic aid granted to the districts. The hit is described as devastating. Palo Alto Unified would lose 20 percent of its annual budget. The school district intends to “start fighting like hell,” said school board member John Barton. In Sausalito (Marin County) schools would be forced to cut as much as 36 percent of their budget, County Superintendent Mary Jane Burke said. Marilyn Loushin-Miller, superintendent of the Hillsborough School District (where all four of the district’s schools have been designated state distinguished schools), said the proposal could require layoffs of 30 percent of the district’s teachers. “The governor is trying to dismantle quality education in the state of California. It doesn’t make sense,” she said.

In picturesque Carmel in Monterey County, Carmel Superintendent Marvin Biasotti told the Monterey County Herald the cut would amount to nearly 40 percent of the district’s budget.

Transportation. Governor Davis proposes to suspend Proposition 42, approved by voters last March to revert $1 billion in revenue from the sales tax on gasoline from the Transportation Investment Fund back to the state general fund. In addition, he wants to forgive a $500 million loan from the Traffic Congestion Relief Fund (TCRF) to the general fund, and further transfer $100 million from the TCRF to the general fund.

The governor also proposes to fold the High Speed Rail Authority into the state Department of Transportation (Caltrans). In addition, the governor is proposing to eliminate all TCRF positions, and a total reduction of 1,345 personnel years at Caltrans. Backers of the controversial train plan say the entire proposal is threatened by moving it within the Caltrans bureaucracy.

Health and Welfare. In addition to realignment cost savings, the governor proposes to suspend statutory welfare COLAs for June 2003 and January 2004, saving $328 million, and proposes to reduce SSI/SSP (aged, blind and disabled) grants to save $662 million. Medi-Cal provider rates for doctors and nursing homes are cut 15 percent and dental and eye services are eliminated. In addition, eligibility rules are tightened, and new steps are planned to get counties to eliminate an estimated 560,000 ineligible Medi-Cal recipients. Santa Barbara County officials said 5,000 residents would be forced off the program, for example.

Trade and Commerce. Several state programs to promote business development are being axed, including the Trade and Commerce Agency’s Tourism Division, at a $7.5 million savings. Also on the chopping block are the agency’s Marketing and Communications Program, foreign trade offices in South Korea, Shanghai, Singapore, Argentina and Israel; the California Technology Investment partnership, the Manufacturing Technology Program and the Space Technology Alliance Program.

Targeted for budget cuts of $8.1 million in the aggregate are the military base reuse office, the business development office, small business development centers and the Film California First program of the California Film Commission.

Emergency Services. How will the Office of Emergency Services react to this emergency? The California Integrated Seismic Network is cut by $580,000. A cut of $400,000 is made in the Plans and Preparedness Division, including elimination of the dam safety program and the earthquake campaign. Local assistance for disaster claims is reduced by $5 million. Regional offices are to be reduced by $1.7 million.

MORE BORROWING

Again, the state will be relying on borrowing as part of the solution to the budget gap. The budget proposes to borrow $3.3 billion through the deferral of mandate payments and contributions to the big retirement systems. The legislative analyst estimates that by the end of the budget year, the state will owe $1.2 billion to local jurisdictions to pay for state mandated costs.

PROJECTED REVENUE DECLINES

Contributing to the so-called $34.6 billion gap is an estimated decline of $3.9 billion in general fund revenue and transfers in 2003-04. This is unprecedented in the past 50-year history of state finance; in only four years prior to this estimate have general fund revenues and transfers been lower than in the prior year.

In 1990-91 and 2000-01, revenues and transfers dropped by about $500 million and the latter was due to the reduction of the vehicle license fee. The significant drops in revenue occurred in the two fiscal years following Pete Wilson’s big tax increase in 1992-93, General Fund revenues and transfers dropped $1.1 billion and in 1993-94, they dropped an additional $850 million.

Contributing to the drop are reductions of the estate tax pick-up tax (down by $242 million to $404 million in 2003-04) due to federal reductions, and a drop of $1.8 billion due to one-time revenues from measures passed last year.

CUTTING FRAUD AND WASTE

According to polling by the Public Policy Institute of California, most Californians agree that there is “a lot” of waste in state government (see September 2002 research brief at www.ppic.org). The proposed budget takes some beginning steps in addressing the problem, but Cal-Tax President Larry McCarthy said much, much more needs to be done.

The budget establishes new quality status reports to expedite the disenrollment of an estimated 560,000 ineligible Medi-Cal recipients, eliminates some programs and some agencies, and seeks to reduce employee compensation by $470 million, among other things.

Mr. McCarthy said there are opportunities for much greater savings. For example, workers compensation costs are causing problems not only for business but for government as well. He urged additional reforms to reduce abuses of the program.

According to The Sacramento Bee, Sherry Bebitch Jeffe, a USC political scientist and frequent commentator on state government, said, “Are we finally going to get our hands on government waste and inefficiency? I don’t know the answer to that. But I do know there is no better time to try.”

Assembly Republican Leader Dave Cox said the state is not doing enough to eliminate waste. He told The Bee, “We have all the money necessary for things we need. We don’t have all the money necessary for things we want.”

Senator Tom McClintock is proposing in SB 9 that an outside commission be established to propose reforms, and the Legislature could only vote “yes” or “no” on the recommendations, which would be modeled after the federal military base closure procedures.

He said, “If spending had merely kept pace with combined inflation and population growth, today’s budget would still be a hefty 21 percent bigger than it was four years ago. But instead of an expected $30 billion deficit, we would today have a $5 billion surplus.”

State Controller Steve Westly, who controls a small army of auditors, has also enlisted in the crusade against waste. He told The Bee, “People are looking at operating government more efficiently – and I want to see that we do that.” He said that in the next few weeks he would be looking at specific functions of the Franchise Tax Board and the State Board of Equalization that can be consolidated. Gina Rodriquez, Sacramento correspondent for Spidell Publishing, made some recommendations along this line at last November’s Taxpayer Bill of Rights hearing.