Fall 2003

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Unemployment Insurance 

Carol Evans, vice president of the California Taxpayers’ Association (Cal-Tax), has focused on unemployment insurance issues for two decades. She is representing Cal-Tax on EDD’s UI study committee.

Sometime in 2004, most likely during the first three months, the California Unemployment Insurance Trust Fund will go bust and California employers will face a $2 billion tax increase. Unless something is done, the employers’ payroll taxes will jump $11 billion over five years.

And, by the end of 2004, the fund will be $1.4 billion in the red.

During 2001 and 2002, in testimony before legislative committees, letters and newspaper commentaries, the California Taxpayers’ Association warned the Legislature and Governor Gray Davis that California’s UI Fund was headed for a train wreck, but the warnings went unheeded. As a result, the UI Fund has flat-lined, and we have a failed system.

For the first time ever, California must resort to an emergency surcharge under a formula in statute that adjusts employer taxes to pay for the program.

For 2004, California employers will be on the “F+” schedule – the “F” schedule plus a 15 percent surcharge. The top rate will be 6.2 percent and the low rate will be 1.5 percent on a taxable wage base of $7,000 per employee.

This schedule change from the current “D” to “F+” means a $2 billion tax increase for California employers. This is on top of a $560 million tax increase in the current year, when the schedule moved from “C” in 2002 to “D” for 2003. Employers will receive their rate notices for 2004 in December.

The average employer tax rate in 2002 was 2.48 percent. The average for 2004 is forecast to be 4.71 percent, a 90 percent rise. The average cost per employee in 2002 was $175. In 2004 it will be $330, up 89 percent.

The tax schedule is determined by a statutory formula that compares the balance in the UI Fund as of September 30 to total wages as of June 30 every year. When the ratio of fund balance to total wages is less than 0.6 percent, an emergency solvency surcharge is triggered.

By 2007, the latest year forecast by the Employment Development Department (EDD), California employers will still be on the “F+” schedule, yielding a five-year total tax increase above 2002 levels in excess of $11 billion. And the fund will still be $1.4 billion in the hole, even with the unemployment rate forecast to drop from 6.6 percent in 2003 to 5.3 percent in 2007.

Previously the highest tax schedule occurred in 1996 with the “F” schedule, but the fund recovered to the “C” schedule by 2002. 

How We Got Here

The primary blame for bankrupting California’s UI Fund lies with SB 40, authored by Senator Richard Alarcon at the behest of organized labor, and signed by Governor Davis in 2001. SB 40 increased UI benefits by 90 percent at the top end over four years and also raised benefits throughout the schedule.

In 2002, weekly benefits increased from $230 to $330, followed by $40 per week increases through 2005, when the top weekly benefit reaches $450. In addition, the wage replacement formula was increased to 45 percent from 39 percent in 2002, and to 50 percent in 2003. SB 40 also allowed simultaneous collection of UI and federal Workers Adjustment Renotification and Training (WARN) Act payments (meaning eligible claimants would receive their regular salary and UI payments at the same time), and allowed payment of UI benefits to claimants seeking part-time employment (an amendment added at the 11th hour, receiving no analysis or review).

Adding insult to injury, Senator Alarcon and organized labor followed SB 40 with a special session bill in 2002, SB 2XXX, to create a retroactive benefit increase.  Normally, and as per SB 40, benefit increases apply to claims filed after the first of the year (January 1, 2002 in this case).  This special session bill made the increase effective for anyone unemployed on or after September 11, 2001.

The crux of SB 40 was to upset the traditional balance of California’s UI program, which combined the most liberal eligibility requirements with lower benefits in order to maintain a reasonable cost to employers.

In addition, evidence is emerging that California’s UI program is fraught with fraud and abuse. In 2002, $130 million in overpayments went to people working and collecting benefits at the same time. Recent Department of Labor audits say $280 million has gone out for fraudulent claims. California’s fraud rate is 5.1 percent compared to the national average of 2.2 percent.

We also have been working with an administration that has been unwilling to officially acknowledge or release any bad news or information until it reaches crisis stage.

What Do We Do?

A committee has been established by EDD to study California’s UI financing system.  A total of 13 members include five from the business community (including Cal-Tax), five from organized labor, one academician, the Assembly speaker and the Senate president pro tem. An initial meeting was held on August 25, where EDD presented data. Several scenarios had been developed showing the impact of raising the taxable wage base to various levels above $7,000, and also collapsing the current multi-schedule tax system into fewer schedules.

Committee members requested EDD to prepare additional data. Subsequent meeting dates are scheduled for November 24 and December 8, and we are awaiting the additional information. We are not even close to an answer at this point.

From the employer perspective, a solution does not rest solely with raising taxes even higher. At a minimum, SB 40’s remaining benefit increases should be prevented, the system needs to adopt more realistic eligibility standards, and we need to stop the fraud and abuse.

This year’s legislative session has closed, but if a special session is called to deal with budget issues, freezing current benefit levels could be addressed if there’s the political will. Based on past experience, any increases in the taxable wage base would require a two-thirds vote. Whether changes in the tax schedule that did not include raising the top rate would be considered a tax increase is not as clear.

What we do know is that employers will be on the “F+” schedule for 2004, the state will continue paying benefits, and the fund will run out of money. Though not yet discussed publicly, we will likely be forced to borrow money from the federal government to continue paying benefits. If the loan were paid off before October 1, 2004, it would be interest-free. But since that appears highly unlikely at this time, interest costs (the rate is 6.08 percent for 2003) will be added to the UI deficit.

Employers and taxpayers have a right to be angry over this situation. It didn’t have to happen. Warnings were loud and clear, but the responsible policy-makers weren’t listening or didn’t care.