SAN FRANCISCO — As California’s governor and lawmakers fought through two tough debates this year over how to keep the budget balanced, a blue-ribbon commission they appointed has been contemplating some fairly drastic revisions to the state’s tax codes, including a flatter tax system.
Those proposed revisions should come front and center by the end of September, after Gov. Arnold Schwarzenegger’s Wednesday announcement that he will call lawmakers into special session after the Commission on the 21st Century Economy delivers its tax recommendations, which are due Sept. 20.
The commission was established last October through a gubernatorial executive order with encouragement and support from Assembly Speaker Karen Bass, D-Los Angeles.
The panel’s mission: to recommend changes to the state’s tax system, with the goal of mitigating the volatility created by its reliance on capital gains taxes and adjusting the tax system to better reflect the state’s shift to “an information- and innovation-based economy” from a manufacturing- and resource-based one.
That volatility resulting from the current system has been much in evidence this year, as lawmakers have been forced to make $60 billion in budget adjustments on two separate occasions because of recession-driven revenue declines.
Some of the ideas the 14 commissioners have discussed involve fairly drastic changes, including a flattening of the personal income tax structure and the replacement of both the state sales tax and the corporate income tax with a new “business net receipts tax,” described by a commission consultant as similar to a value-added tax.
Seven of the commission’s members were appointed by the Republican governor, including the chair, venture capitalist Gerald Parsky. The other seven were appointed by the Legislature’s Democratic leaders, including Edward J. De La Rosa, founder and president of public finance investment banking firm De La Rosa & Co.
The commission’s six meetings so far have played out partly as exercises in trying to bridge the partisan divide.
Parsky was pushing in the direction of a flat personal income tax. In early June, legislative appointees Christopher Edley and Fred Keeley each announced “blue plans” in an effort to preserve Democratic Party values, particularly a progressive income tax.
California currently has one of the most progressive tax regimes in the nation, with high-income residents paying a top rate of 10.55% for those with incomes over $1 million. High tax rates in California bolster the demand from local investors for tax-free municipal bonds.
Edley is the dean of the Boalt Hall School of Law at the University of California, Berkeley, and Keeley is a former state lawmaker and currently the treasurer of Santa Cruz County.
In a letter to fellow commissioners distributed before their most recent meeting July 16, Edley outlined his position.
“I and some other members of the commission have consistently and repeatedly objected to a reduction in progressivity, or to using concerns about revenue volatility as a stalking horse for the traditional conservative agenda of a California 'flat tax,’ he wrote.
Edley proposed retaining the current personal income-tax rate structure, while fencing off the great majority of capital gains tax receipts by either directing them to a rainy-day fund or limiting their use to one-time spending.
Keeley raised similar objections to changes in the progressivity of the income tax structure, and the release of the “blue” plans triggered speculation of irreparable rifts in the commission, speculation commissioners have tried to damp down, as exemplified by Keeley, according to a transcript of the commission’s June meeting.
“What I’m asking for is, and committing myself to is ... making a principled compromise here,” he said then.
The other major component of the commission’s discussion, the business net receipts tax, has generated less ideological debate but more concern about practical applications.
The shorthand explanation from the commission’s staff is that the tax would apply to the difference between the gross receipts of a business, minus its purchases from other businesses. It would replace the statewide sales tax — but not local sales taxes — and the corporate income tax, though insurance companies would continue to pay a premiums tax and bank and financial companies would remain subject to a bank and corporation tax.
The devil is in the details of such a tax, which would not have an exact counterpart elsewhere in the U.S., though it has some similarities to a Michigan business tax.
“It was the will, if you would, of the commission to explore the possibility of broadening the tax base in California through a business net-receipts tax,” Parsky said at the commission’s July meeting.
The commission may also consider a simpler alternative to sales tax reform, as Parsky explained at the meeting. “As an alternative, the sales and use tax would continue to be on the table for extension to services,” he said. “That we could decide as an alternative to a new business net-receipts tax, that we would take on the challenge of extending it to all services.”
According to an e-mail Parsky sent to commissioners last week, the commission is planning to continue discussions of a simplified personal income tax structure and the net receipts tax, as well as a “split roll” distinguishing between residential property and business property, a fuel tax, and an oil extraction tax.
The commission is charged with delivering revenue-neutral recommendations and is planning two August workshops to discuss the details of a net receipts tax, followed by two more full commission meetings in September to prepare its final report.
Even if it is successful in bridging its internal divisions, its work will be turned over to state lawmakers, who arguably have even greater ideological divisions.
Getting lawmakers and eventually voters to accept a flattening of the income tax system is an “almost insurmountable” obstacle, said Dan Schnur, a long time California GOP strategist who is now director of the Jesse M. Unruh Institute of Politics at the University of Southern California
“At the very core, you have a situation where you have a very small number of taxpayers shoulder the overwhelming majority of the tax burden,” he said. “Anything you do to alleviate that situation can be attacked as taxing the working class in order to help the wealthy.”
But the commission’s proposals should have the Legislature’s undivided attention, as the special session Schwarzenegger is planning will take place after it adjourns its regular 2009 session on Sept. 11.
