Skip to content
Fact Sheet

Water’s Edge: Closing the Largest Corporate Tax Loophole in California

Closing the “Water’s Edge” Loophole Would Address Offshore Tax Avoidance and Raise $3 Billion in State Revenues

August 2025 | By Kayla Kitson

Corporate profits have skyrocketed in recent years while workers’ wages have stagnated and families struggle to keep up with the rising costs of living. Despite these disparities, large tax breaks, such as the “Water’s Edge” loophole, remain in place. Big corporations have also benefited greatly from the 2017 Trump tax cuts and stand to receive more benefits from the federal tax package recently signed into law. Corporate tax breaks largely benefit corporate shareholders, who are disproportionately wealthy and white, widening economic and racial inequality. 

California policymakers should ensure that profitable corporations pay their fair share in state corporate taxes — which represent a tiny share of their expenses — to support the public services that Californians need. This is especially urgent to help mitigate the harms of the harmful federal cuts to health care, food assistance, and other basic needs programs. 

State leaders should end the state’s most costly corporate tax break — the water’s edge loophole, which allows corporations to avoid around $3 billion in California taxes each year and deprives the state of needed resources to address the most pressing concerns facing Californians.

As state leaders look to blunt the harm of the federal budget on Californians with low incomes and the state’s finances, it’s clear that California’s corporate tax structure is in need of repair. While large, profitable corporations benefit from new federal tax breaks, California policymakers must ensure these businesses pay their fair share in state taxes. There is no one-size-fits-all solution: different options can all complement each other. For example, limiting corporate tax credit usage will raise revenues by itself but will also prevent erosion of the revenue potential from ending the water’s edge loophole.

MORE IN THIS SERIES

To learn more about the water’s edge election, net operating losses, tax credits, corporate tax rates, and options for common-sense reform, see the other fact sheets in this series:

The Problem: Multinational Corporations Avoid Billions in State Taxes by Shifting US Profits Offshore

Large corporations that have affiliated companies outside of the US can use a variety of mechanisms to artificially shift hundreds of billions in US profits to foreign jurisdictions with low tax rates — known as tax havens — to reduce their federal and state taxes. In fact, corporations report to federal tax authorities that their profits in some well-known tax havens are multiple times larger than the entire economies of these places, indicating that most if not all of those profits are only there on paper. 

As one example of how a corporation might accomplish this, a US corporation can transfer ownership of intellectual property like patents or trademarks to a foreign affiliate and pay the affiliate for the right to use them, effectively moving income off the books of the US corporation while keeping it within the larger corporate group. This is a tactic that industries such as tech and pharmaceuticals can easily employ, but corporations across the board have options to engage in offshore profit shifting and tax avoidance.

Corporations Can Greatly Reduce Profits Subject to Taxation — and Their Taxes — by Shifting Profits Abroad and Using the Water’s Edge Election

CORPORATE GROUP TOTAL PROFITS

If the example corporation above uses the default Worldwide Combined Reporting method, all worldwide profits are included: $5B + $500M + $200M + $4B + $2B = $11.7 Billion.

If the corporation chooses to use Water’s Edge Election, only domestic profits are included (yellow oval): $5B + $500M + $200M = $5.7 Billion.

Note: This is a simplified example.

California’s “water’s edge election” allows corporations to choose whether or not to include the profits of their foreign affiliates when they report their total profits that can be divided up among, or “apportioned” to, the states where they are subject to tax.1Additionally, while some groups of related corporations may elect to file a group tax return in California, each corporation may file separate returns but are still required to combine profits at the corporate group level first, before apportioning profits between taxing jurisdictions and individual corporate entities.Generally, profits are apportioned to states by multiplying the total profits by the “sales factor”, which is determined by dividing the corporation’s sales into the state by its total sales. For filers electing the water’s edge method, the denominator is only domestic sales.

The water’s edge election creates several issues:

  • Smaller, domestic businesses likely pay higher shares of their income in taxes than large multinational corporations because they are unable to shift profits overseas.
  • Giving corporations the option of two filing methods means they will always choose the one that lowers their tax bill. For corporations with significant offshore profits, the water’s edge method will likely result in lower taxes. If corporations have domestic profits and foreign losses, using the “worldwide combined reporting” method — where all worldwide profits and losses are combined — would result in a lower tax bill.
  • Allowing corporations to ignore foreign profits can encourage them to shift profits to foreign tax havens and avoid state taxes by using the water’s edge election.

Maintaining the water’s edge election will cost the state an estimated $3.1 billion in 2024-25, increasing to $3.5 billion by 2026-27, according to the Department of Finance.

The Solution: Close the Water’s Edge Loophole and Require Worldwide Combined Reporting

Requiring large multinational corporations to use the worldwide combined reporting method would eliminate the state tax benefit of shifting profits abroad and close this loophole, resulting in additional revenue for California. Under this method, corporations are required to include the income of all their domestic and foreign affiliates in their total profits before determining what share is taxable by each state. This is already the default tax filing method for corporations subject to tax in California that don’t elect the water’s edge method, so some corporations currently use this method when it is beneficial for them.

In tandem with requiring worldwide combined reporting, policymakers could take steps to prevent corporations from underreporting their sales into California, driving down the “sales factor” used to determine the share of their profits that can be taxed in California, and ultimately reducing their state taxes. For example, policymakers can clarify state law to ensure corporations report the final destination of their sales — not the location of intermediaries — for the purpose of the sales factor, and require more robust reporting on the locations of sales to allow tax authorities to better identify cases when a corporation may be underreporting. This is a reform that should generate additional revenue on its own, but would also help prevent the erosion of revenues that could be gained from requiring worldwide combined reporting, as requiring corporations to report their global profits may lead them to find other ways to reduce their California tax bill, like underreporting sales into the state.

Ending the water’s edge loophole for large corporations and requiring worldwide combined reporting is a common-sense reform to ensure corporations contribute a fair share of their profits in California taxes to support the state services and infrastructure that allow companies, their workers, and their consumers to thrive.

Want to Better Understand
the State Budget?

The Budget Center’s essential resources for understanding and navigating the California state budget — all in one place.

Explore tools, videos, and expert insights designed to strengthen your advocacy and guide informed decision-making.

Visit the Budget Academy
California Budget
Taxes & Revenue
  • 1
    Additionally, while some groups of related corporations may elect to file a group tax return in California, each corporation may file separate returns but are still required to combine profits at the corporate group level first, before apportioning profits between taxing jurisdictions and individual corporate entities.

You may also be interested in the following resources:

Stay in the know.

Join our email list!

In California, workers’ wages have stagnated and families struggle to keep up with the rising costs of living, while corporate profits have skyrocketed. Yet many profitable corporations in California pay zero or very little in state taxes year after year. 

Big corporations have also benefited greatly from the 2017 Trump tax cuts and are poised to receive more benefits from the federal tax and budget bill just enacted by the Trump administration and congressional Republicans. Large tax breaks for corporations widen economic and racial inequality because they largely benefit corporate shareholders, who are disproportionately wealthy and white. 

California policymakers should ensure that profitable corporations pay their fair share in state corporate taxes — which represent a tiny share of their expenses — to support the public services that Californians need and help mitigate the harms of federal cuts to health care, food assistance, and other basic needs programs. 

State leaders can prevent profitable corporations from completely wiping out their tax bills with amassed tax credits by instituting permanent annual caps on business credits and deductions. In practice, this would ensure that corporations contribute to the state services and infrastructure they rely on to operate their business, just like all Californians do. 

As state leaders look to blunt the harm of the federal budget on Californians with low incomes and the state’s finances, it’s clear that California’s corporate tax structure is in need of repair. While large, profitable corporations benefit from new federal tax breaks, California policymakers must ensure these businesses pay their fair share in state taxes. There is no one-size-fits-all solution: different options can all complement each other. For example, limits on business tax credits and net operating loss (NOL) deductions are key to preventing the erosion of the potential revenues that could be generated from eliminating the water’s edge tax loophole and increasing the tax rate on highly profitable corporations.

MORE IN THIS SERIES

To learn more about the water’s edge election, net operating losses, tax credits, corporate tax rates, and options for common-sense reform, see the other fact sheets in this series:

Highly Profitable Corporations Can Largely Avoid State Taxes With Tax Credits and Net Operating Loss Deductions

A large share of corporations in California pay nothing above the meager $800 minimum franchise tax that most businesses that are incorporated, registered, or doing business in California are required to pay. Nearly half of all profitable corporations filing tax in California in 2023 — more than 300,000 corporations — paid nothing more than the $800 minimum tax, even though they collectively had $11.7 billion in state profits, according to preliminary data from the state’s Franchise Tax Board. This means they were able to eliminate their regular tax liability by either zeroing out their taxable income with net operating loss deductions, zeroing out their tax bill with tax credits, or some combination of the two. This number does not include corporations that were able to greatly reduce their tax bills but still paid some amount above the minimum tax. Unfortunately, there is no public data available indicating the number of corporations that pay minuscule shares of their profits in state taxes, or which corporations they are. However, public data show that many profitable corporations are able to avoid paying taxes at the federal level. While there are some differences in tax avoidance opportunities for corporations between federal and state law, some corporations paying low or no federal taxes may also be able to reduce or zero out their state taxes using similar state-level tax breaks.

How can corporations pay next to nothing in state taxes when they are profitable? 

While business tax calculations can be very complicated, in general a corporation1This is a simplified example that does not include all the complexities of corporate tax calculations.:

  1. Determines its final tax bill by subtracting any tax credits it has available.
  2. Determines its total profits by subtracting business expenses from its total revenues/sales. For corporations that are part of a group of affiliated corporations, this calculation includes the profits of the entire combined group. However, multinational corporations can choose to use the “water’s edge election” and exclude the profits of their foreign subsidiaries, which can reduce their profits subject to state taxes and therefore their tax bill.
  3. Determines the share of these total profits that is attributable to California and to each member of the corporate group by multiplying profits by a “sales” factor — the ratio of the corporations’ California sales to total sales.
  4. Determines its taxable income for state tax purposes by deducting any net operating losses (NOLs) it has available.
  5. Determines its taxes due before applying tax credits by multiplying its taxable income by the applicable tax rate.2  While the state does have an “alternative minimum tax” for C corporations that utilize certain tax preferences, this does not prevent corporations from wiping out their taxes with credits, and impacts very few corporations. In 2022 and 2023,only around 1% of C corporation filers paid the alternative minimum tax, generating $100 million or less in state revenues (data is preliminary for 2023).

A net operating loss occurs when a business experienced losses in prior years, meaning its expenses exceeded its revenues. Those losses can be carried forward and used to reduce its taxable income in future years, and thus its tax bill.3NOLs can be carried forward for up to 20 years after the loss occurred, at which time any unused NOLs expire. In total, corporations reduced their taxable income by around $30 billion in 2023 and had more than $1.3 trillion in unused NOLs that can be carried forward and deducted from profits in future years, according to preliminary Franchise Tax Board data.
 NOLs, if large enough, could reduce taxable income to zero, in which case the business would pay no more than the state’s $800 minimum franchise tax. 

If a business still has taxable income after subtracting NOLs, the applicable tax rate — 8.84% for C corporations and 1.5% for S corporations — is then applied to determine its tax liability. But many businesses can then reduce their tax liability on a dollar-for-dollar basis if they have research and development (R&D) credits, film production credits, or other types of business credits. Some may even reduce their regular tax bill down to zero and would only pay the $800 minimum tax.

Like NOLs, business tax credits can also be carried forward to future years if their credits exceed the taxes they owe in the current year. According to data last reported by the Franchise Tax Board for the 2020 tax year, corporations had more than $40 billion in unused R&D credits that could be used to offset their future tax bills.4 This information is no longer reported by the Franchise Tax Board.

The R&D credit is by far the state’s largest business tax credit. The credit cost California more than $2.5 billion in 2023 and was claimed by over 4,600 corporations across various industrial sectors, according to preliminary Franchise Tax Board data. While research has generally found state R&D tax credits to increase the amount of R&D taking place in a state, the evidence is mixed on the size of the impact and their overall economic effects. Additionally, California’s credit has never been rigorously studied. The California State Auditor noted nearly ten years ago that, because there is no regular oversight or evaluation of the credit, the auditor’s office could not determine whether the credit was fulfilling its purpose or benefitting the state’s economy. Thus, it is unclear whether the billions of dollars the state spends on the credit each year are an effective use of public funds — especially given that those dollars are not available to spend on other public services that could potentially provide greater economic benefits.

While the Franchise Tax Board does not report tax credit data for individual corporations, some of these corporations do report in their public financial filings the amount of California credits — particularly R&D credits — they have available to offset future tax liability. For example, Alphabet (Google’s parent company) and Apple report that they have $6.4 billion and $3.5 billion, respectively, in California R&D credits that they can use to reduce their California taxes in the future. This means that even if companies like this with large stockpiles of credits were subject to a higher tax rate in the future, some of them could largely avoid paying more in tax as long as they still have sufficient credits available for use.

Profitable Corporations Shouldn’t Be Able to Wipe Their Entire Tax Burden: State Policymakers Should Place Annual Limits on Net Operating Loss Deductions and Tax Credits

California policymakers can make sure profitable corporations pay their fair share in state taxes by enacting permanent annual limits on NOL deductions and tax credits. 

State leaders have temporarily limited NOLs and tax credits multiple times in response to budget shortfalls. In 2020, in response to the COVID-19 economic crisis, state leaders enacted a $5 million limit on tax credits that businesses could use in a given year and a pause on the use of NOL deductions for businesses with state profits above $1 million. Those limitations were in effect for tax years 2020 and 2021. However, even with those limitations in place, a large share of profitable corporations still paid nothing more than the $800 minimum tax in those years, as shown in the first chart above.

The Legislative Analyst’s Office estimated in 2022 that the $5 million tax credit limit likely impacted fewer than 100 corporations, since most businesses claim tax credits below that amount. The credit limit is estimated to increase state revenues by $2 billion or more annually in years when it’s in effect.

Faced with another shortfall in 2024, policymakers still re-enacted these limits for tax years 2024, 2025, and 2026.

BAD BUDGETING

Breaking from tradition — and likely to appease corporate opponents to these limits — policymakers also included a provision in the 2024-25 budget that will allow businesses impacted by the temporary tax credit limitation to claim refunds after 2026 for the credits that they were prohibited from taking during the limitation period. In other words, they can receive cash back if their delayed credits exceed the taxes they owe in those years. Historically, refundable tax credits have only been available for low-income families and individuals in California as a way to boost their incomes. Allowing corporations to claim refunds for these credits will cost the state more than $1 billion annually for several years beginning in 2027, as the corporations electing to receive refunds must spread the refund out over several years. Policymakers could avoid these costs in the out years by repealing this refundability provision.

Policymakers have several options to limit business tax credits to a reasonable amount on an ongoing basis. They could opt to make the current temporary $5 million limit permanent instead of letting it expire in 2027. They could also reduce that limit in the near term to generate additional revenues immediately. Another option is to limit the total credits that a business can use in any year to a percentage of the taxes it would otherwise owe that year. In the longer term, rigorous analyses on the efficacy and the cost-effectiveness of specific business tax credits — such as the R&D credit and the film tax credit — are warranted, which would inform future policy reforms such as eliminating or restructuring credits determined to be ineffective or where the costs exceed the benefits.

Similar to limiting tax credits, state leaders could limit the amount of NOL deductions that can be taken in a given year as a percentage of the business’ state profits. While there are legitimate reasons to allow businesses to use NOL deductions to “smooth out” their income over multiple years, since income may be volatile for some businesses, there is also an argument to be made that businesses should not be able to pay nothing or next to nothing in years when they are generating significant profits. So it is reasonable to impose annual limits to prevent corporations from entirely wiping out their taxable income and in turn, their tax bill. At the federal level, NOL deductions are limited to 80% of a corporation’s taxable income. California could adopt that limit or enact a tighter limit to raise additional revenue and ensure corporations are paying taxes on more than 20% of their profits.

Placing reasonable caps on business credits and deductions — particularly in combination with the other corporate tax reforms such as eliminating the water’s edge loophole and increasing the tax rate on the most profitable corporations — will ensure corporations contribute a fair share of their profits in California taxes to support the state services and infrastructure that allow companies, their workers, and their consumers to thrive.

California Budget
Taxes & Revenue
  • 1
    This is a simplified example that does not include all the complexities of corporate tax calculations.
  • 2
     While the state does have an “alternative minimum tax” for C corporations that utilize certain tax preferences, this does not prevent corporations from wiping out their taxes with credits, and impacts very few corporations. In 2022 and 2023,only around 1% of C corporation filers paid the alternative minimum tax, generating $100 million or less in state revenues (data is preliminary for 2023).
  • 3
    NOLs can be carried forward for up to 20 years after the loss occurred, at which time any unused NOLs expire. In total, corporations reduced their taxable income by around $30 billion in 2023 and had more than $1.3 trillion in unused NOLs that can be carried forward and deducted from profits in future years, according to preliminary Franchise Tax Board data.
  • 4
    This information is no longer reported by the Franchise Tax Board.

You may also be interested in the following resources:

Stay in the know.

Join our email list!

In California, workers’ wages have stagnated and families struggle to keep up with the rising costs of living, while corporate profits have skyrocketed. Big corporations have also benefited greatly from the 2017 Trump tax cuts and are poised to receive more benefits from the federal tax and budget bill just enacted by the Trump administration and congressional Republicans. Large tax breaks for corporations widen economic and racial inequality because they largely benefit corporate shareholders, who are disproportionately wealthy and white. 

California policymakers should ensure that profitable corporations pay their fair share in state corporate taxes — which represent a tiny share of their expenses — to support public services and help shield Californians from the harms of federal cuts to health care, food assistance, and other basic needs programs. 

MORE IN THIS SERIES

To learn more about the water’s edge election, net operating losses, tax credits, corporate tax rates, and options for common-sense reform, see the other fact sheets in this series:

How do large, profitable corporations currently get away with paying so little in California taxes?

California’s tax code contains several provisions, including the water’s edge election, net operating loss (NOL) deductions, and tax credits like the research and development credit, that corporations can take advantage of to reduce their state taxes. While actual corporate tax calculations can be exceedingly complicated, the following hypothetical — and very simplified — example demonstrates the ways that corporations operating across multiple states and countries can reduce the taxes they owe to California. 

State leaders can limit the opportunities corporations have to wipe out their tax bill in years when they are profitable by reforming these elements of the corporate tax system that enable them to do this.

Taxes & Revenue

You may also be interested in the following resources:

Stay in the know.

Join our email list!

Corporate profits have soared in recent years, especially among a small share of large corporations. Yet because California does not have a graduated corporate income tax, large corporations pay the same tax rate as smaller ones and often have more resources to exploit tax loopholes. 

Big corporations have also benefited greatly from the 2017 Trump tax cuts and are poised to receive more benefits from the federal tax and budget bill recently enacted by the Trump administration and congressional Republicans. Large tax breaks for corporations widen economic and racial inequality because they largely benefit corporate shareholders, who are disproportionately wealthy and white. 

At the same time, workers’ wages have stagnated, families struggle to keep up with the rising costs of living, and funding for federal programs like Medicaid and food assistance have been slashed. 

California policymakers can ensure that profitable corporations pay their fair share in state corporate taxes — which represent a tiny share of their expenses — to support the public services that Californians need and help mitigate the harms of federal cuts to health care, food assistance, and other basic needs programs. 

One option for state leaders is to modify the state’s flat corporate tax rate to apply higher tax rates to corporations with higher profit levels, similar to California’s progressive tax system for personal income taxes. State leaders could either establish a single surtax on profits above a certain threshold or transition to a graduated tax rate with several brackets.

As state leaders look to blunt the harm of the federal budget on Californians with low incomes and the state’s finances, it’s clear that California’s corporate tax structure is in need of repair. While large, profitable corporations benefit from new federal tax breaks, California policymakers must ensure these businesses pay their fair share in state taxes. There is no one-size-fits-all solution: different options can all complement each other. For example, limiting corporate tax credit usage and ending the “water’s edge” loophole will make it harder for profitable corporations to avoid their tax liability from an increase in their corporate tax rate.

MORE IN THIS SERIES

To learn more about the water’s edge election, net operating losses, tax credits, corporate tax rates, and options for common-sense reform, see the other fact sheets in this series:

Corporate Profits are Highly Concentrated, Yet Corporations are Taxed at the Same Rate Regardless of Profit Level

Unlike the state’s personal income tax system, which is a graduated tax structure with higher rates applied to higher levels of income, the state’s corporate tax system applies the same tax rate regardless of profit level. But the lion’s share of profits is earned by a small number of large corporations. In 2022, “C corporations” with at least $10 million in California profits received more than four-fifths of the total profits in the state — $180 billion in the aggregate — while making up less than 1% of tax returns for all C corporations (see box describing types of corporations). 

Types of Corporations and their California Tax Rates

There are two main types of corporations for tax law purposes: C corporations and S corporations, so named for the sections in the federal tax code governing them.

C corporations

C corporations are taxed on their profits at the business level. Their owners are subject to personal income tax when they receive corporate distributions as dividends and when they sell shares of corporate stock. Large corporations that trade their shares on public stock exchanges are organized as C corporations. In California, C corporations are subject to an 8.84% tax rate regardless of profit level. 

S corporations

S corporations are not subject to federal tax at the business level, but their profits (or losses) are passed through to the individual shareholders, who pay federal and state taxes on their shares of business income through the personal income tax, whether or not that income is distributed to them as payments. S corporations have a limited number of shareholders and their stock is not traded on public stock exchanges. In California, S corporations are also subject to a 1.5% tax at the business level.

Other California Business Types and Their Taxes

In addition to the regular state rates, there is an additional 2% tax on banks and other financial institutions — both C corporations and S corporations — because these corporations are exempt from certain local taxes.

Some businesses — including most small businesses — are not structured as corporations and pay no business-level taxes. Like S corporations, the individual owners of these businesses pay taxes on their business income (and are thus known as “pass-through” businesses). However, these businesses are not subject to an income tax at the business level and are not included in state corporate tax data.

These businesses can be organized as sole proprietorships (for example, a typical “mom-and-pop shop”), partnerships (for example, many law firms, medical practices, and other professional service firms), or limited liability companies (LLCs). Some of these business types are subject to the state’s $800 minimum tax, and LLCs are subject to a capped, tiered fee based on income level.

Learn more about California’s taxation of various business types from the Franchise Tax Board.

Policymakers Can Require Greater Tax Contributions from Top-Earning Corporations 

In contrast to California’s flat corporate tax system, thirteen other states already have graduated corporate tax systems with multiple rates based on profit levels. Notably, in recent years, New York and New Jersey lawmakers have approved or extended surtaxes (additional taxes beyond regular tax rates) on the most profitable corporations in those states. New York applies a tax rate to corporations with state profits of more than $5 million that is 0.75% higher than the regular corporate tax rate. In comparison, New Jersey applies a 2.5% surtax on the state profits of corporations with profits above $10 million in the state.

Some California policymakers proposed a two-rate corporate tax system in 2023; this proposal would have increased the 8.84% C corporation tax rate to 10.99% on California taxable income above $1.5 million and decreased the rate to 6.63% on taxable income up to $1.5 million. The tax rate for S corporations would have been reduced from 1.5% to 1.125% on taxable income up to $1.5 million. At the time, it was estimated that a total of around 2,500 corporations would have seen a tax increase and that the increased rate would have raised around $6 billion annually, falling to around $4 billion annually after accounting for the revenue losses from the proposed lower rate on lower income levels.

While the 2023 proposal excluded S corporations from a rate increase — and while S corporation profits are less concentrated among the largest corporations than C corporation profits — there are large and profitable S corporations as well. In 2022, there were more than 13,000 S corporations with California profits of at least $1.5 million, representing just 1.8% of S corporations and receiving more than half of S corporation profits in the state. Policymakers could raise additional revenue by applying a higher rate on very profitable S corporations as well.

Finally, if policymakers pursue corporate tax rate changes, it is also critical to pair this with other corporate tax changes to reduce the ability of corporations to avoid the tax increase, which can significantly reduce the revenue potential of increases to the tax rate alone. Namely, policymakers should also address corporations’ use of offshore tax havens by eliminating the water’s edge loophole and put reasonable annual limits on business tax credits and deductions. These actions will help ensure corporations contribute a fair share of their profits in California taxes to support the state services that allow companies, their workers, and their consumers to thrive.

Taxes & Revenue

You may also be interested in the following resources:

Stay in the know.

Join our email list!

Californians and their communities are facing many ongoing challenges, including skyrocketing housing costs, families’ urgent need for affordable child care, and workers’ wages that aren’t keeping up with rising living costs. Fortunately, when state leaders addressed a $55 billion shortfall in the 2024-25 budget, they avoided many deep and harmful cuts that would have jeopardized Californians’ well being. However, their failure to permanently raise significant additional state revenue will limit their ability to protect progress from the emerging federal threats and meet the ongoing needs of Californians.

California spends tens of billions of dollars each year on tax breaks, some of the largest of which benefit the wealthy and profitable corporations. These tax breaks take billions of dollars away from communities, while perpetuating racial income and wealth gaps. Yet the ongoing revenue increases in the 2024-25 budget from reducing tax breaks amounted to just 0.2% of all budget “solutions” to close the shortfall. This year, the governor proposes tax policies that, when taken together, would raise a modest amount of revenue on net in 2025-26 but in future years would likely result in a net revenue loss or a roughly offsetting revenue impact.

With looming threats of deep federal funding cuts from the Trump administration and Congress, and the human, economic, and fiscal impacts of the Southern California wildfires adding to the list of challenges facing Californians, state leaders should act boldly by raising revenues — including eliminating tax breaks for the wealthy and profitable corporations — and investing in programs that help all Californians thrive. The budget should reflect the promise of the California dream — ensuring every California family has access to food, a safe and affordable place to live, quality child care, and economic security.

California Budget
Taxes & Revenue

You may also be interested in the following resources:

Stay in the know.

Join our email list!

key takeaway

California’s undocumented residents contribute nearly $8.5 billion in taxes, playing a crucial role in supporting public services while remaining excluded from essential programs.

All Californians should be able to live thriving lives and participate in their communities, regardless of their race, ethnicity, age, gender identity, sexual orientation, ability, or immigration status.

California is home to a sizable population of immigrants — with and without legal status — who are students, teachers, artists, chefs, business owners, religious leaders, colleagues, neighbors, family members, and more. Undocumented Californians pay billions of dollars in taxes and play a vital role in stimulating California’s economy. They help keep businesses running, put food on tables, care for children and loved ones, enrich communities through art and music, and much more.

Tax Contributions by Undocumented Californians

One contribution that is often overlooked or underestimated is the amount of taxes that individuals who are undocumented are paying into publicly-funded systems to support public services, even as they are excluded from benefiting from many of those same services.

Undocumented Californians paid nearly $8.5 billion in state and local taxes in 2022, according to estimates from the Institute on Taxation and Economic Policy (ITEP). This includes the sales and excise taxes paid on purchases, the property taxes paid on homes or indirectly through rents, individual and business income taxes, unemployment taxes, and other types of taxes.

These tax contributions support the public services and infrastructure that benefit all Californians, such as education, roads and transit, emergency response, and the social safety net. However, despite recent progress in making some public supports more inclusive of Californians regardless of their immigration status, many programs continue to unjustly exclude undocumented individuals and families who pay into these systems and seek support in times of need.

Portrait of child girl eating on snack time at school

H.R. 1 and the Federal Budget

H.R. 1, the harmful Republican mega bill passed in July 2025, will deeply harm Californians by cutting funding for essential programs like health care, food assistance, and education.

See how California leaders can respond and protect vital supports.

Learn More

California has taken steps in recent years that recognize the importance of supporting everyone regardless of status, including:

  • Expanding full-scope Medi-Cal health coverage to all eligible Californians regardless of immigration status. We are already seeing signs of benefits from making Medi-Cal more inclusive: After full-scope Medi-Cal was expanded to undocumented children, the share of non-citizen children reporting excellent health status increased by 10 percentage points while no changes were seen for citizen children not impacted by the expansion.
  • Ending the exclusion of tax filers with Individual Taxpayer Identification Numbers (ITINs) from the benefits of the state’s refundable tax credits — the CalEITC and the Young Child Tax Credit.
  • Taking the first steps to provide access to nutrition benefits through the California Food Assistance Program (CFAP) for undocumented adults age 55 and older, who are excluded from receiving federally funded Supplemental Nutrition Assistance Program (CalFresh in California) benefits. However, the 2024-25 state budget delayed the implementation of this expansion until 2027.

Despite this progress, Californians without documentation remain excluded from many critical supports, jeopardizing their health and economic security. While many of these exclusions stem from federal law, state leaders can further support these Californians by using state resources to end the exclusions. State policymakers should:

  • Ensure undocumented workers have access to unemployment support when they lose a job by funding cash assistance for workers excluded from traditional unemployment insurance benefits. The Legislature recently passed a bill to require the Employment Development Department to develop a plan to establish an Excluded Workers Program, but the governor vetoed the bill citing concerns about the cost and the deadline set in the bill.
  • Address food insecurity in undocumented communities by expanding CFAP nutrition benefits to undocumented Californians of all ages.
  • Build on the success of ending Medi-Cal exclusions by expanding access to health coverage through Covered California to undocumented families whose income make them ineligible for Medi-Cal.
  • Expand the Cash Assistance Program for Immigrants (CAPI) to undocumented older adults and people with disabilities whose immigration status disqualifies them from receiving Supplemental Security Income/State Supplementary Payment (SSI/SSP). 
  • Increase funding for free tax preparation services to enable more undocumented Californians to apply for and renew ITINs and file income returns — allowing them to pay the taxes they owe and receive the tax credits they are eligible for.

Exclusions from these vital services are one contributor to the higher rate of poverty among undocumented Californians. This results in unnecessary human suffering and additional strains on community services that people use as a last resort, such as emergency rooms.

Federal action is also needed, including ending unjust exclusions from federal safety net and financial assistance programs and providing an accessible path to citizenship for those who have been living, working, and contributing to their communities. Granting legal status to these individuals would provide them with greater economic security and stability, and allow them to make even more meaningful contributions to the state.

Furthermore, by allowing all workers to pursue legal employment, granting legal status could increase the state and local tax contributions of Californians currently lacking documentation from $8.5 billion to $10.3 billion, according to ITEP estimates. This would deepen their already significant contributions to California’s economy and public support programs.

Regardless of the prospects for federal action, California leaders have the tools to continue making the state’s services inclusive of all its residents and ensuring that no one is left out of critical safety net programs.

Health & Safety Net
Taxes & Revenue

You may also be interested in the following resources:

Stay in the know.

Join our email list!