Governor’s New Restructuring Proposal Stirs Up Debate Over Future of Enterprise Zone Program

One of the issues we’ve been tracking closely in this year’s budget debate is potential reform of the state’s Enterprise Zone (EZ) Program. Established in 1984, the EZ Program provides a variety of tax credits intended to encourage businesses to locate in economically distressed areas as well as to promote job creation. However, research shows that, as currently structured, the program fails to achieve its goals. At the same time, the EZ Program places an increasing strain on the state budget: The program cost the state $720 million in 2010 and is projected to cost $1 billion by 2015-16.

Governor Brown’s revised 2013-14 budget, released a week ago, includes a new, revenue-neutral set of proposals that would significantly restructure the EZ Program. These proposals include narrowing the EZ hiring tax credit, expanding statewide the sales and use tax credit for the purchase of manufacturing and biotech equipment, and creating a California Competes Recruitment and Retention Fund, which would provide tax credits for business investment and job creation throughout California.

The May Revision’s proposed changes to the EZ Program are controversial and have generated media attention across the state, with, for example, articles in the Los Angeles Times and the Sacramento Business Journal pointing to the mixed reactions to the Governor’s new proposal.

As we noted in our discussion of the Governor’s January budget proposal and our analysis of the May Revision, policymakers have real choices in crafting a budget, even when facing revenue constraints. As policymakers choose the future direction for EZs in California, the upcoming debate will likely focus on three issues.

First, the Governor’s proposals to narrow the hiring tax credit and expand the sales and use tax credits statewide essentially end EZs as they are currently structured. But, as noted earlier, the program doesn’t produce significant outcomes given the costs to the state in foregone revenue. In light of its serious shortcomings, elimination or restructuring of the EZ Program would not be expected to have an adverse effect on employment or job growth.

Second, local leaders argue that the loss of EZs is an egregious hit coming on top of the elimination of redevelopment agencies (RDA) just last year. They have a point. Much like in prior years’ battle over RDAs, the issue isn’t the intent of the program — most of us support efforts to redevelop and create jobs in economically distressed areas. Rather, the issue is that these programs are poorly structured to produce the desired outcomes, and they come at a high cost to state and local governments and constrain their ability to invest in other priorities. However, the debate over EZs shouldn’t be a fight to the death, as with RDAs. The Governor and local leaders should come together to craft legitimate strategies for economic development. If not RDAs, or EZs, then alternatives need to be developed that put state and local investments on the same page.

This brings us to the third issue: the Governor’s proposed California Competes Recruitment and Retention Fund, which would operate out of the Governor’s Office of Business and Economic Development (GO-Biz). The details are lacking at this point, but on early review, the proposal raises concerns that it apparently gives discretion to the Governor’s Office to provide tax credits throughout the state. Not only does research show that EZs fail to produce the intended outcomes, but considerable research also suggests that state tax credits are equally if not more ineffective than area-based credits. While the narrowing of the credits as noted above has the potential for considerable state savings, we suspect the new Fund is what results in the Governor’s proposals being revenue-neutral, rather than providing an increase in revenue. Bottom line, we think the state’s money could be better spent elsewhere.

A more critical look at state and local economic development incentives along with a more ambitious restructuring of the EZ Program could reduce the strain on the state budget and provide funds for needed investments elsewhere, such as increasing the number of subsidized child care and preschool slots, repealing the 10 percent cut to Medi-Cal provider payments, and strengthening the CalWORKs Program.

The CBP will soon release a report analyzing California’s EZ Program. Stay tuned.

— Kristin Schumacher and Chris Hoene