Enterprise Zone Reform — At Last

Earlier this month, Governor Brown signed into law several bills included in the 2013-14 budget agreement that, at long last, reform the state’s controversial Enterprise Zone (EZ) Program. The program was created nearly 30 years ago with admirable intentions — to provide tax breaks to promote job creation in economically distressed areas. However, independent studies, including our own, have questioned the effectiveness of EZ tax breaks in achieving their goals — even as program costs skyrocketed. Among the problems highlighted in our most recent report:

  • The annual cost of the EZ tax credits and deductions had grown to $700 million and — without program changes — were expected to reach $1 billion in 2016;
  • The EZ program’s tax breaks primarily benefited very large corporations, with two-thirds of the credits being claimed by corporations with assets of at least $1 billion; and,
  • The hiring tax credits, which comprised nearly 60 percent of the total cost of the EZ program, were poorly structured, allowing companies to claim the credits without actually creating new jobs.

Since its inception, the California Budget Project has critiqued the structure, usage, and rising costs of the EZ program. We’ve consistently called for significant reforms to the program, including narrowing the hiring tax credits and zone designations to better ensure that the credits result in new job creation in economically distressed areas. Reform was a long time in coming, despite a body of evidence showing that the program failed to produce its intended outcomes at an increasingly high cost to the state.

The 2013-14 budget agreement puts in place a series of reforms that effectively phase out the EZ program and replace it with a new and revised package of incentives (see our prior blog for more on the specifics of the budget agreement). In brief, the budget agreement:

  • Modifies the current EZ designations to include the use of the credits in census tracts throughout the state that rank in the top 25 percent in both unemployment and poverty;
  • Alters key elements of the hiring tax credit, including requiring businesses to create new jobs (as opposed to hiring new workers for existing positions) and narrowing the hiring tax credit to fewer categories of disadvantaged workers; and,
  • Creates a manufacturing equipment sales and use tax exemption for use within manufacturing and biotech industries. The exemption is available statewide, rather than just within certain geographic areas, helping reduce incentives for jurisdictions in California to compete against each other for businesses.

The budget agreement also includes a number of provisions designed to enhance our ability to evaluate the performance of the credits. The new policy requires businesses to return money to the state if certain terms are not met, sets benchmarks to ensure small businesses benefit from the new incentives, and includes sunset dates for the credits.

In short, the package of reforms more effectively targets job creation in the state’s most distressed areas and allows us to evaluate and revisit the programs over time based on performance. That’s a win, at long last, for Californians and California.

Beyond EZ Reform

Beyond EZ reform, we will be monitoring two issues in particular. First, while there is much to celebrate in the budget agreement, the package of reforms also includes the establishment of a business incentive fund, to be administered by the Governor’s “GO-Biz” office to retain and attract business in California. The Governor used the signing of the new package to comment on Texas Governor Rick Perry’s travels to California earlier in the year in an effort to attract businesses to Texas, saying, “Those fellas in Texas, watch out…California has some new tools.” The Governor’s remarks point to an underlying problem with the new business incentive fund, in that it could be used to engage in a zero-sum, state-to-state competition for business, rather than investing in new jobs overall. A critique of the prior EZ system was that it encouraged local jurisdictions in the state to compete for businesses and jobs, rather than creating new opportunities. The same critique can just as easily be applied to the new business incentive fund if it merely results in state-vs.-state gaming of the system. Further, it perpetuates myths that lower state taxes inevitably result in state economic growth and that business location decisions are influenced by tax credits — claims that are clearly not supported by research. Fortunately, the new fund is limited in size ($30 million in 2013-14) and is subject to the same evaluation and performance requirements noted above, but how the fund is used in the coming years is worth watching closely.

Second, in the deliberations about EZ reform, local leaders opposing the reforms often noted that the elimination of Redevelopment Agencies (RDAs) in 2011 and restructuring of the EZ program would leave local governments with few available tools to promote local economic development and redevelopment. From our vantage point, RDAs and EZs were poorly structured to achieve these goals. But their elimination (RDAs) and reform (EZs) expose a significant gap in state and local economic development and redevelopment, particularly in terms of affordable housing. With EZ reform at long last a reality, it is time for state and local leaders to identify effective strategies and tools that position the state for growth and broadly shared prosperity.

— Chris Hoene and Kristin Schumacher