Unemployment claims are going to taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. state unemployment compensation trust funds beyond their limits. We need to start thinking about what to do about it.
The joint federal-state system of unemployment insurance (UI) is a key component of the governmental response to the COVID-19 crisis, meeting the immediate needs of workers who are laid off amidst the coronavirus pandemic. There is broad support, at the federal level, for expanding eligibility criteria and providing for extended benefits, both funded by the federal government. But the focus on additional federal funding has obscured the reality that most of the initial costs are borne by states, which may soon face an unprecedented number of claims.
State payroll taxA payroll tax is a tax paid on the wages and salaries of employees to finance social insurance programs like Social Security, Medicare, and unemployment insurance. Payroll taxes are social insurance taxes that comprise 24.8 percent of combined federal, state, and local government revenue, the second largest source of that combined tax revenue. es, called SUTA taxes, fund regular unemployment compensation (UC) benefits. In 2019, states paid out $26.5 billion in regular benefits, compared to $75.3 billion in 2009 during the Great RecessionA recession is a significant and sustained decline in the economy. Typically, a recession lasts longer than six months, but recovery from a recession can take a few years. . Overall, UC outlays peaked in 2010 at $156.4 million, which included $63 million in regular benefits combined with $8 billion in federally funded extended benefits and $83.8 billion in emergency unemployment compensation and federal additional compensation, funded by the federal government. (Normally, if states provide extended benefits, they must pick up part of the cost, but the full costs were assumed by the federal government during the Great Recession.)
The good news is that states are substantially more prepared today than they were at the onset of the Great Recession. The bad news is that some estimates of unemployment during the coronavirus pandemic have it far outstripping job losses during the Great Recession, and even if the worst estimates prove overly pessimistic, no one can doubt that state UI funds face a financial reckoning.
Goldman Sachs is projecting that 2.25 million new unemployment benefit claims could be filed this week, following a 33 percent spike (281,000 new claims) last week. State unemployment offices are already overwhelmed. In one week’s time, Ohio claims rose from 963 to 27,894 a day. Virginia saw a 1,500 percent increase in claims over last week. And while most weeks about as many people are rolling off unemployment compensation as are filing new claims, no one expects that now.
In a closed-door meeting, Treasury Secretary Steve Mnuchin warned senators that the unemployment rate could soar to an almost Great Depression-level 20 percent in the absence of federal intervention. Of course, there will be such intervention, and most projections based on the assumption of such federal responses assume far fewer layoffs than that—but their projections are still bleak, with the likelihood that several million jobs will be eliminated. States would be hard-pressed to handle the deluge.
States are responsible for covering 26 weeks’ worth of regular unemployment benefits. Federal provisions expanding eligibility and providing for extended benefit periods can help many laid off workers and, assuming they are fully federally funded, avoid putting an additional strain on state UC funds through these expansions. But they do nothing to help with the basic math that states face as they start paying out regular benefits to a massively larger pool of unemployed workers.
The U.S. Department of Labor assesses the health of state UI funds with several measures. One is called the Reserve Ratio, which looks at the trust fund balance as a percentage of the state’s total annual wages. Minimum adequate solvency entering a recession is calculated by dividing the Reserve Ratio by what is called the Average Benefit Cost Rate, which represents the average of the three highest rates of benefits the state had to pay out (as a percentage of state wages) over the past 20 years. If this yields a solvency level of 1 or greater, the state is deemed to have adequate UI funding to weather a recession.
Twenty-nine states and the District of Columbia have solvency levels of 1 or higher, but 21 fall short, with some of the largest states, with the largest pool of employees, faring the worst. In fact, the six states with solvency levels below 0.5 are California, New York, Texas, Illinois, Massachusetts, and Ohio, which collectively represent 37 percent of the U.S. population. To put these numbers in context, consider this: if unemployment claims simply matched the average of the three highest benefit costs over the past two decades (which would mean fewer claims than in the Great Recession), California’s trust fund would run out in about 10 weeks.
|State||UI Trust Fund Balance||Reserve Ratio||Solvency Level|
|District of Columbia||$521,251,876||1.19||1.18|
|Source: U.S. Department of Labor, Office of Unemployment Insurance|
If states are unable to pay out regular benefits using their existing trust fund balances, they can take out federal loans. The 31 states with solvency levels of 1.0 or higher may do so without interest, at least initially, though states with lower solvency levels will incur interest payments. Eventually, should states take too long to repay these loans, technically called Title XII advances, in-state employers will face higher federal unemployment insurance taxes to compensate for their state’s indebtedness. States should also take steps to keep UI taxes from spiking on struggling small businesses as layoffs increase, particularly since mandatory closures make many of them unavoidable, though this will also come at a cost—one best bridged by federal assistance.
It may well be that no state is fully prepared for unemployment compensation claims on this scale, but some states are substantially better prepared than others. As during the Great Recession, federal intervention will doubtless be part of the solution for all states, and the more quickly these details are worked out, the better. But whatever the federal government does, states need to start planning for a major shift in their spending priorities—now.
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