California Prepares to Issue IOUs Next Month

June 25, 2009

California’s legislature yesterday rejected a proposal to cut $11 billion from its budget. With spending greatly exceeding revenue, the state is due to run out of cash on July 28. Comptroller John Chiang says he will then beginning issuing IOUs:

“Next Wednesday we start a fiscal year with a massively unbalanced spending plan and a cash shortfall not seen since the Great Depression,” Controller John Chiang said in a statement announcing that he would be forced to use IOUs to pay the state’s bills beginning on July 2.

“The state’s $2.8 billion cash shortage in July grows to $6.5 billion in September and after that we see a double digit freefall,” Chiang said. “Unfortunately, the state’s inability to balance its checkbook will now mean short-changing taxpayers, local governments and small businesses.”

The current spending proposal for Fiscal Year 2010 has the state spending $2 billion more a month than it gets in revenues. Some point fingers at Proposition 13 (which has been around for 30 years, so an unlikely cause for a recent fiscal crisis) or the legislative supermajority (which states like Arkansas also have without calamity happening, and as if turning California into a one-party state would cause better policy outcomes). But those “answers” are premised on the idea that California’s taxes are too low.

California is a high tax state. They are sixth highest in state-local tax burden as a percentage of state income. The sales tax is the highest state rate in the country even before the recent 1% increase, and numerous county rates keep them in the top 5 of state-local combined rates. Their individual income tax top rate is the second highest in the country, eclipsed only recently by Hawaii, and is sixth highest in the country in terms of collections. The corporate income tax is one of the highest in the country and sixth highest per capita in collections. Even the gas tax is the third highest in the country and the state Lottery has the fifth highest implicit tax rate in the country. Only on property taxes is California “low”: 28th highest in collections per capita.

The Tax Foundation’s annual State Business Tax Climate Index evaluates tax structures for business-friendliness, and the 2009 edition ranked California 48th, or third worst. The individual income tax ranked second to last, corporate income tax ranked 45th, and sales tax ranked 43rd. (Property tax structure was a bright spot, ranking 15th in the country.)

With these comparisons, and the enormous growth in state spending, it’s hard to say that California’s problem is insufficient taxation. Ultimately, California voters need to decide whether they are willing to pay the taxes to fund the programs they want. The tax system prevents this from happening now, due to the state’s overreliance on taxing capital gains, corporations, and high-income earners. Most Californians rightly think additional spending is a free lunch that they won’t have to pay for.

That’s why it’s a golden opportunity for fundamental tax reform in the state.

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