LOS ANGELES — The biggest battle in this year’s California budget process is likely to be about what to do with an estimated $7.5 billion budget surplus.

California Gov. Jerry Brown’s inclination, demonstrated in the $190.3 billion 2018-19 spending plan he released Wednesday, is to put a significant amount into a rainy day fund and operating reserve fund.

“The whole point is to think ahead and minimize the pain that is coming, because of the way our business cycle works,” Brown said during his budget press conference Wednesday. “That is just the reality.”

Calif. Gov. Jerry Brown
“The whole point is to think ahead and minimize the pain that is coming, because of the way our business cycle works,” said California Gov. Jerry Brown. Bloomberg News

Brown said his administration had turned what he described as a $27 billion deficit when he took office in 2011 into a surplus, adding that he doesn’t want to leave a fiscal mess for his successor when he terms out after this year's election.

The governor’s budget would direct $3.5 billion into the rainy day fund in addition to the $1.5 billion constitutionally required through legislation that created the fund in 2014. That proposal would result in a $13.5 billion rainy day fund, hitting Brown's goal of having 10% of tax revenues in reserve.

The Legislature’s Democratic majorities have signaled that they think some of the surplus should be used to bolster social programs, particularly those for the very poor.

“As it relates to poverty, the governor stated that unlike other states, California has a good system of support, but it is modest,” said Sen. Holly Mitchell, D-Los Angeles, who chairs the Senate Budget Committee. “Here, modesty is not good enough. I would like to see more increases in Supplemental Security Income cost of living allowances, and investments in human services, particularly as it relates to deep poverty and CalWORKS," referring to the state's program for impoverished families.

“I have always said that the budget is a value statement of what we as Californians prioritize,” Mitchell said.

Given the uncertainty at the federal level and the likelihood of more federal cuts to social programs, the governor could strike “a better balance between putting funds away for later and boosting state investment now to help more households to make ends meet and climb the economic ladder, especially in light of our state’s highest-in-the-nation poverty rate,” said Chris Hoene, director of the California Budget & Policy Center, a think tank that focuses on how the state’s budget policies impact poor and middle-class residents.

The much-outnumbered Republican caucuses have their own ideas for the surplus. They want $2 billion to be used for reserves, $2 billion to pay down pension liabilities and $2 billion to go to local government to fund housing incentives, homeless shelters and fix local streets and roads.

“Californians worked incredibly hard to pay these record high taxes and deserve the absolute best return for their hard work,” said Senate Republican Leader Patricia Bates, R-Laguna Niguel.

Brown’s budget would also send money to local governments with $8 billion in flexible funding to help counties as they continue to deal with the shift that began in 2011 of non-violent offenders from state prison to county jails. He also would allocate $3 billion for K-12 schools through local control funding to put more money in the hands of schools that have higher concentrations of impoverished students and English learners.

The governor didn’t ignore the soaring stock market and relatively strong employment figures, but said they don’t detract from reasons to prepare for a downturn. It might be another year or two before the next downturn, Brown said, but you still need time to recover.

The state receives 70% of its revenue from income taxes and half of that comes from the top 1%, making the state dependent on capital gains earned in the stock market and resulting in huge revenue swings, Brown said.

“We can’t turn on a dime in a downturn,” he said.

Brown’s budget would place $2.3 billion into an operating reserve fund in addition to the money going into the rainy day fund.

“We have to have a reserve,” said Michael Cohen, state’s Department of Finance director. “This year shows that, because if we didn’t start with a $1 billion reserve we would be in deficit.

“We have to set some money aside whether it’s for wildfire costs or Medicare,” Cohen said.

Sen. Jeff Stone, R-Riverside County, supported the governor’s plan to bolster the rainy day fund, but suggested that the level of the surplus gives the state plenty of room to return some of the money to taxpayers “to mitigate any negative impacts that may come from the recently adopted federal tax reform legislation.”

The governor's January proposal is an opening gambit in the long march toward a budget that is to be adopted in June, before the July 1 beginning of the fiscal year. The governor will release a revised budget proposal in May using updated revenue figures from April's income tax filings.

In addition to transportation, Brown's budget also takes aim at the state’s estimated $67 billion in deferred maintenance.

The 2015 and 2016 budgets allocated $960 million to the most critical deferred maintenance projects such as levees and high-priority state facilities including office buildings and the Capitol Annex, according to the budget document.

This budget takes into account the passage of Senate Bill 1, the gas tax, which it says will provide $55 billion in new transportation funding over the next 10 years, split equally between state and local projects.

The governor’s spending plan would allocate $4.6 billion in new transportation funding in fiscal 2018-19 including $2.8 billion to repair neighborhood roads, state highways and bridges, $556 million for trade and commute corridors, $200 million for high-priority transportation projects and $721 million for passenger rail and public transit modernization.

The budget also would include funding to restart the state’s court construction program to complete 10 courthouses.

Brown's budget would direct $1.3 billion to natural resources and housing infrastructure spending presuming that state bond measures passed by the Legislature last year will be approved by voters in November.

The Legislature approved 15 bills last year to encourage housing construction to help fill an annual 180,000-unit of homes that need to be built over the next 10 years to alleviate the housing crisis.

One placed a $4 billion general obligation housing bond measure on the statewide ballot in November, while the other is expected to bring in $250 million a year through a $75 fee to most real estate transaction documents, except on the purchase or sale of property.

Controller Betty Yee released her December cash report Wednesday that showed revenues for the fiscal year so far are $2.79 billion above June’s budget expectations of $16.25 billion.

“I can sum up the governor’s budget in one word: smart,” Yee said. “The federal tax measure did not just stick it to California’s individual taxpayers – it will also likely have a devastating impact on our state budget."

State officials are in a bit of a wait-and-see mode on the surplus, because part of the boost in December could be from taxpayers making early payments on tax bills they won't be able to deduct in 2018. The GOP tax bill places a $10,000 cap on the amount of local and state taxes that can be deducted from federal taxes.

Personal income taxes came in 25% higher at $11 billion in December. Corporation taxes were 40% higher at $2.47 billion for the month. Sales tax receipts came in $272.4 million lower than expected.

As the state won’t know for months the impact of the GOP tax bill, Yee said, “Brown is wise in exercising caution with responsible short-term spending, boosting rainy day fund reserves, and paying down debt.”

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