California will lose an estimated $69.2 billion in state General Fund revenues in 2021-22 to personal and corporate income tax breaks — or “tax expenditures.”1Department of Finance, Tax Expenditure Report 2021-22, 5, https://www.dof.ca.gov/Forecasting/Economics/Tax_Expenditure_ Reports/documents/2021-22%20Tax%20Expenditure%20Report.pdf. Many of the state’s largest tax breaks primarily benefit higher-income households and businesses, while just a fraction of the state’s tax breaks are targeted to Californians with low and middle incomes.2For a more detailed examination of California’s tax expenditures, see Kayla Kitson, Tax Breaks: California’s $60 Billion Loss (California Budget & Policy Center, January 2020), https://calbudgetcenter.org/resources/tax-breaks-californias-60-billion-loss/.This revenue loss equals approximately one-third of the state’s 2021-22 General Fund budget and represents dollars the state could otherwise use to support Californians to live, work, and thrive across the state.
Some of California’s tax expenditures also widen racial income and wealth disparities.
The state will forgo more than $18 billion in revenue due to just four itemized deductions that mostly benefit higher-income households and three tax incentives for businesses and investors. In comparison, California will spend less than $1.5 billion on tax breaks that primarily benefit low- and middle-income households, including the California Earned Income Tax Credit (CalEITC), the Young Child Tax Credit, the Renter’s Credit, the Student Loan Interest Deduction, and the Child and Dependent Care Credit.
Some of California’s tax expenditures also widen racial income and wealth disparities. Since Black and Latinx households are underrepresented in higher-income groups due to legacies of racist policies and ongoing discrimination, these households benefit less than white households from tax breaks skewed toward richer households. Additionally, many tax breaks reward wealth-building activities such as homeownership and retirement savings, to which households of color have less access.
When policymakers choose to spend public dollars via tax expenditures that largely benefit wealthy Californians and businesses, they are also choosing not to spend those dollars to help individuals and families who struggle with the costs of housing, child care, education, and other necessities. Eliminating or scaling back these tax expenditures would free up revenue that could be used to invest in resources that broaden economic security and create wealth and opportunity for more Californians.
What’s the difference between income and wealth? Taxes for individuals and corporations in California? Tax credits and deductions? Understanding these key terms is critical to navigating the state budget and its intersection with California’s tax and revenue system to generate ongoing resources and provide quality education, affordable health care, child care, housing, and other services for communities.
Generally, a tax filer’s total income before deductions. However, some types of income are not included in AGI; for example, income from Social Security and unemployment benefits is not included in California AGI. Additionally, certain “above-the-line” deductions can reduce AGI. Because federal and California law differ in these exclusions and deductions, a tax filer’s federal AGI may not match their California AGI.
Alternative Minimum Tax (AMT)
Certain tax filers must use an alternative calculation of tax liability if they benefit from certain tax expenditures and the tax that they would owe under the alternative method exceeds what they would owe under the regular method. The purpose of the AMT is to ensure that tax filers that take advantage of tax expenditures pay a minimum amount of tax on that preferentially treated income. The California AMT applies to both individual and corporate tax filers, and the federal AMT only applies to individual filers.
Property owned by an individual or business that is expected to provide a future economic benefit. Examples include financial assets such as stocks and bonds as well as physical assets such as real estate, vehicles, and business equipment.
Generally, the difference between the value of an asset when sold and when it was originally purchased. California and the federal government generally do not tax the increase in the value of an asset until it is sold; this is sometimes referred to as a capital gain being “realized.” In contrast, an “unrealized capital gain” refers to the increase in value of an asset that has not yet been sold. In California, capital gains are taxed at the same rate as income from employment, whereas at the federal level, they are subject to lower tax rates than employment income.
A tax imposed on corporations that do business in or derive income from California — with the exception of insurance companies, which instead pay the insurance tax. This tax is California’s third-largest revenue source. California only taxes the share of a corporation’s net income — revenues less deductions — that is earned in California. This is generally determined by the share of the corporation’s total sales that are attributable to California using a formula known as “single sales factor apportionment.” The corporation tax includes:
The corporation franchise tax, a tax of 8.84% of a corporation’s California net income or an $800 minimum franchise tax, whichever is higher;
The corporation income tax, which is nearly identical to the corporation franchise tax but applied to very few corporations; and
The bank tax, which is an additional 2% rate (for a total of 10.84%) for banks and other financial institutions. These institutions pay the additional rate in place of personal property taxes and all other local business taxes paid by other corporations.
A reduction in taxable income (or a reduction in Adjusted Gross Income, in some cases) for certain expenses. Deductions cannot reduce taxable income below zero. Many deductions are available only to tax filers who claim itemized deductions. Because the value of a deduction is based on a tax filer’s tax bracket, and higher-income households are subject to higher income-tax rates, they receive larger savings for each dollar deducted than do lower-income households, which are subject to a lower tax rate.
A distribution of a corporation’s profits to its shareholders. Like capital gains, dividends are taxed as ordinary income in California but are subject to lower rates by the federal government.
Earned Income Tax Credit (EITC)
Arefundable tax credit that boosts the incomes of workers with low wages, and that is provided in both federal and California tax law. The credit increases as earnings rise up to a maximum point, after which the credit phases out. California’s Earned Income Tax Credit (CalEITC) is modeled on the federal EITC, but structured differently. California also provides an additional credit for CalEITC-eligible families with children under age 6, the Young Child Tax Credit.
Effective Tax Rate
The percentage of the tax base that is actually paid in tax after taking into account applicable credits, exemptions, deductions, and other tax preferences. Due to these preferences — as well as the graduated rate structure for the personal income tax — the effective tax rate is lower than the statutory or marginal tax rate.
A tax imposed on someone’s estate, meaning the value of their assets upon their death. In contrast to an inheritance tax, an estate tax is paid by the estate prior to distribution to heirs and other beneficiaries. Currently, the federal government imposes an estate tax on high-valued estates, but California does not impose an estate tax. California voters approved Proposition 6 in 1982, which repealed the state’s existing inheritance tax and prohibited the enactment of future taxes on estates, inheritances, or any transfer occurring upon death. Thus, any proposed estate tax would need to be approved by California voters.
A tax on the sale of a specific good, such as alcohol, tobacco, or gasoline.
A provision that allows certain types of income to be ignored in tax calculations. For example, California does not require tax filers to include income from Social Security or unemployment benefits in their total income for tax purposes.
This can have different meanings in different contexts.
At the federal level, tax filers were able to claim “personal exemptions,” essentially a deduction of a flat dollar amount per tax filer and dependent, prior to 2018. However, the 2017 “Tax Cuts and Jobs Act” suspended personal exemptions through 2025.
California offers “exemption credits,” which are nonrefundable tax credits of a set dollar amount for each tax filer and dependent, with higher amounts for blind individuals, seniors, and dependents.
California law includes many sales tax exemptions, where certain types of items are not subject to the sales tax. The largest of these sales tax exemptions are for food products, prescription medications, and utilities.
Some organizations, such as nonprofit, educational, and religious organizations, can have tax-exempt status, meaning they are generally not subject to corporation taxes.
The category a tax filer belongs to based on their marital status and family structure. One’s filing status affects the applicable income thresholds for each tax bracket, the amount of the standard deduction, and the qualification criteria for some tax expenditures. There are five filing status at both the state and federal levels:
Married filing jointly (also applies to Registered Domestic Partnerships in California)
Married (or Registered Domestic Partnership) filing separately
Head of household
Graduated Income Tax
An income tax structure in which the tax rate increases with income, with the first x dollars subject to a low rate, the next y dollars subject to a higher rate, and so on. California has a graduated income tax structure, with rates ranging from 1% to 12.3% — before the application of a 1% surtax on income above $1 million to fund mental health services. This structure, along with tax preferences such as exemptions, deductions, and credits, reduces tax filers’ effective tax rate below their marginal tax rate.
Along with vertical equity, one of the two principles of tax equity. Horizontal equity isthe concept that tax filers with similar economic circumstances should be taxed similarly. For example, under Proposition 13 of 1978, California’s local property tax is based on the inflation-adjusted purchase price of the property rather than its current market value, meaning two tax filers owning properties with the same market value may owe significantly different amounts of tax based on when they purchased the property. This Prop. 13 policy violates the principle of horizontal equity.
Money received over a certain period by an individual, family, or household, such as money from employment, investments, business ownership, and other sources. Income is not equivalent to wealth.
A tax on the value of inherited wealth received by an heir, in contrast to an estate tax, which is applied directly to the decedent’s estate before assets are distributed to beneficiaries. California voters approved Proposition 6 in 1982, which repealed the state’s existing inheritance tax and prohibited the enactment of future taxes on estates, inheritances, or any transfer occurring upon death. Thus, any proposal to reinstate an inheritance tax would need to be approved by California voters.
A tax on the premiums received by insurance companies. This tax is paid by insurance companies in lieu of the corporation tax.
Income received from investmenting in assets, including capital gains, dividends, and interest payments.
A deduction for specific types of expenses. Major itemized deductions allowed under California’s tax law include those for mortgage interest, local property taxes, charitable contributions, an employee’s business-related and miscellaneous expenses, and large medical expenses. At both the federal and state levels, tax filers choose between taking a flat standard deduction or itemizing their deductions. Itemizing deductions generally benefits higher-income tax filers most, since they are more likely to have high-value homes — and therefore large expenses for mortgage interest and property taxes — and more likely to donate large sums to charity. However, California law does reduce the amount of itemized deductions allowed for tax filers with federal Adjusted Gross Income above specified thresholds (roughly $200,000 for single filers, $300,000 for heads of household, and $400,000 for joint filers).
Limited Liability Company (LLC)
A type of business that blends corporate and partnership structures and can elect to be taxed as a partnership or as a corporation. LLCs are also required under California law to pay an annual tax of $800 as well as a tiered fee based on income.
Marginal Tax Rate
The rate at which one’s highest increment of income is taxed. Due to California’s graduated income taxstructure, a tax filer’s marginal tax rate is higher than their effective tax rate. For example, under California’s 2021 personal income tax brackets, a single tax filer with a taxable income of $150,000 had a top marginal rate of 9.3%, but they only paid this rate on income above $61,214. The first $9,325 of their income was subject to a 1% rate, then income between $9,325 and $22,107 was subject to a 2% rate, and so on. Due to this tiered rate structure, this tax filer’s effective tax rate would be well below 9.3%.
Nonrefundable Tax Credit
A tax credit that cannot exceed a tax filer’s tax liability, or in other words, cannot reduce tax liability below zero. For example, if a tax filer has a tax liability of $1,500 and would otherwise qualify for a tax credit of $2,000, the credit would be capped at $1,500. This means that tax filers with low incomes who have little to no personal income tax liability often do not fully benefit from these credits. California’s Renter’s Credit and Child and Dependent Care Credit are nonrefundable.
A type of pass-through business where the business’ income (or loss) is passed through to its partners. There are two common types of partnerships: limited partnerships, which are required to pay an annual entity-level tax of $800 in California; and general partnerships, which are not required to pay an entity-level tax.
A type of business entity which is not subject to the regular federal or state taxes on corporations, and instead passes income (or losses) through to its owners, who report it on their personal income tax returns. Depending on the type of pass-through business, the entity may also be required to pay an annual tax or fee in California. Pass-through entities include S corporations, partnerships, limited liability companies, and sole proprietorships.
Personal Income Tax
A tax on the income of California residents as well as the income of nonresidents derived from California sources. The tax applies to income from employment, investments, pass-through businesses, and retirement plans. California’s personal income tax has a graduated rate structure that includes nine tax brackets, with rates ranging from 1% on the lowest share of income up to 12.3%. California also levies a 1% surtax on all income above $1 million to fund mental health services. Due to its graduated structure and other features, California’s personal income tax is a progressive tax. The personal income tax is California’s largest source of revenues.
A tax which takes up a higher share of income for higher-income households than for lower-income households. California’s personal income tax is a progressive tax.
A tax on real property (land and buildings) and certain types of personal property, including aircraft, watercraft, and business equipment and fixtures. Property taxes remain within the county where they are collected and are allocated among the county government, cities, K-12 schools and community colleges, and special districts based on formulas outlined in state law. While the property tax is a local revenue source, it is governed by provisions put into the state Constitution by Proposition 13 of 1978 and subsequent ballot measures. Under Prop. 13, the general property tax rate is capped at 1% of the assessed value of the property, which for real property is limited to its purchase price plus an annual inflation adjustment not exceeding 2%.
Also called a “flat” tax, a tax which takes up the same percentage of income for all households.
Refundable Tax Credit
A tax credit which can reduce a tax filer’s tax liability below zero and provide the difference as a refund. For example, if a tax filer has a tax liability of $1,500 and is eligible for a $2,000 credit, the credit will zero out their tax liability and provide a $500 refund. Because low-income families often have little to no tax liability, a tax credit will only fully benefit these families if it is refundable. The federal Earned Income Tax Credit and California’s Earned Income Tax Credit (CalEITC) and Young Child Tax Credit are refundable.
A tax that takes up a larger share of income for lower-income households than for higher-income households. Examples include the sales and use tax and excise taxes.
Formally known as a “Subchapter S corporation,” a type of corporation that is taxed as a pass-through business and has no more than 100 shareholders. State law also requires S Corporations to pay the higher of a $800 minimum franchise tax or 1.5% of its California income.
Sales and Use Tax
A tax on the purchase of tangible goods in California (the sales tax) or on the use of tangible goods in California that were purchased elsewhere (the use tax). The sales and use tax is California’s second-largest revenue source. Services are excluded from the sales and use tax, as are other items exempted by law, including groceries and medications. The sales and use tax is a regressive tax, because lower-income households generally must spend a larger share of their incomes on necessities than higher-income households, so a larger share of their income goes to sales taxes.
A type of pass-through business owned by an individual, or couple, who reports the business’ income on their personal income tax return rather than being subject to corporation taxes.
A deduction that tax filers can claim on federal and California tax returns instead of claiming itemized deductions. A standard deduction is a set amount that only varies by filing status. For 2021, the California standard deduction was $4,803 for single filers and married couples filing separately, and $9,606 for married couples filing jointly, heads of household, and qualifying widow(er). These amounts are adjusted annually for inflation.
State and Local Tax (SALT) Deduction
A federal itemized deduction for state and local taxes paid, including property taxes and either income or sales taxes. The federal tax changes of 2017 (the “Tax Cuts and Jobs Act”) limited the deduction any tax filer can take to $10,000 (through 2025). California allows a similar deduction for property taxes and certain other state, local, and foreign taxes, but does not limit the amount of the deduction.
An additional tax levied on top of the regular tax structure. For example, California voters approved Proposition 63 in 2004, which created a 1% surtax on taxable income over $1 million to fund mental health services. This is in addition to the tax owed according to the state’s regular personal income tax structure with a top rate of 12.3%, making the combined top tax rate 13.3%.
Legal methods of reducing tax liability (in contrast to tax evasion).
The universe of income, assets, sales, or other economic activity subject to tax. Tax expenditures narrow the tax base, whereas eliminating or limiting tax expenditures broadens the tax base.
Ranges of taxable income that are subject to a given tax rate. The brackets vary by filing status; in California’s personal income tax system, the income thresholds for each bracket for couples filing taxes jointly are two times the thresholds for single filers. Additionally, the thresholds are higher for Californians who file as heads of household than for single filers.
This term refers to alignment between California’s tax law and the federal tax code. California’s tax law contains many references to federal tax law, but unlike many other states, California does not automatically adopt, or “conform to,” changes to the federal tax code. Instead, the Legislature must take action to incorporate federal tax changes — in part or in whole — into state law. At the time this glossary was published, references in California’s tax law to the federal Internal Revenue Code generally pointed to the federal code as it read on January 1, 2015. However, state policymakers have incorporated into state law selected federal tax changes that occurred after that date.
A dollar-for-dollar reduction in tax liability for individual or corporate tax filers. Tax credits can be refundable or nonrefundable.
Illegal methods of avoiding or reducing taxes, such as deliberate non-payment or underpayment.
Refers to exceptions to “normal tax law” that reduce the revenue governments would otherwise collect. These exceptions include, but are not limited to, exemptions, deductions, exclusions, tax credits, deferrals, elections, and preferential tax rates. Tax expenditures can be commonly referred to as tax breaks, tax loopholes, or tax preferences.
The amount of tax owed. Tax credits can reduce tax liability; nonrefundable tax credits cannot reduce tax liability below zero, but refundable tax credits can.
Tax Rate Schedule
A table indicating the tax rates that apply to each interval of taxable income. California’s personal income tax has three tax rate schedules, which tax filers with taxable income above $100,000 must use to determine their tax liability: “Schedule X” applies to single filers and married/Registered Domestic Partnership couples filing separately; “Schedule Y” applies to married/Registered Domestic Partnership couples filing jointly and qualifying widow(er)s; and “Schedule Z” applies to head of household filers. Filers with taxable income of $100,000 or less consult a tax table to determine their state personal income tax liability instead of using the tax rate schedule.
A table that California tax filers with taxable incomes of $100,000 or less use to look up the amount of their state income tax liability. In contrast to California’s tax rate schedules — which include precise tax liability calculations — the tax table assigns one rounded tax amount to filers of a given filing status with taxable incomes within intervals of approximately $100.
The result of subtracting a tax filer’s standard deduction or itemized deductions from their Adjusted Gross Income. A filer’s tax liability is determined by applying the applicable tax rates to their taxable income.
Along with horizontal equity, one of the two types of equity considered when evaluating tax policies. While horizontal equity is concerned with tax filers with similar economic circumstances, vertical equity is concerned with the distribution of taxes across the tax filers of different income levels. Progressive taxes are considered to be vertically equitable because they make up a largest share of income for the highest-income tax filers, who have the greatest ability to pay.
The value of the resources that an individual, family, or household owns. Wealth is often measured by net worth, which is the sum of the value of all assets minus all liabilities, or debts, like money owed on loans.
Californians need quality public health and schools, access to affordable housing and clean water, and safe roads and neighborhoods along with many more services to live and thrive – no matter one’s zip code. Accordingly, the state’s tax and revenue system must raise adequate revenue to cover the services provided by state and local governments and make ongoing investments to meet the needs of Californians. However, policy choices of the past and present shape whether revenues are equitably raised and who is contributing a fair share of their income to California’s revenue. State policymakers can make the tax and revenue system more equitable by strengthening taxation of Californians with high incomes and wealth while providing more support to Californians with low incomes and Californians of color who have been blocked from income- and wealth-building opportunities.
This 5 Facts explains main concepts associated with tax equity and illustrates how elements of California’s tax and revenue system further or impede the goals of economic and racial equity for households, communities, and the state.
1. Taxes Can Be Progressive, Proportional, or Regressive — Depending on How They Impact People Across Income Levels
A key aspect to tax equity is how a tax — or a tax system as a whole — impacts households across income levels. One way to measure this is by comparing effective tax rates —meaning the share of one’s income paid in a tax — of people in different income groups. A tax is considered progressive when households with higher incomes have higher effective tax rates than those with lower incomes. The opposite of a progressive tax is a regressive tax. With regressive taxes, people with lower incomes have higher effective tax rates than people with higher incomes. Finally, a tax is considered proportional when people at all income levels have the same effective rates. Progressive taxes are the most equitable taxes, since they ask the most from people who have the most ability to pay.
People with lower incomes must spend larger shares of their income just to meet their basic needs, leaving them with less ability to pay taxes. For example, almost 6 in 10 low-income California households spend more than half of their income on housing alone, compared to just 2% of high-income California households.1Aureo Mesquita and Sara Kimberlin, Staying Home During California’s Housing Affordability Crisis (California Budget & Policy Center, July 2020), https://calbudgetcenter.org/resources/staying-home-during-californias-housing-affordability-crisis/. Data are for 2018. “Low-income California household” is defined as a household with income below 200% of the federal poverty threshold — roughly $51,000 for a family of four in 2018 — and “high-income California household” is defined as a household with income of at least four times the federal poverty threshold — roughly $102,000 for a family of four in 2018. In other words, after covering the basics, Californians with lower incomes have much smaller portions of their total incomes available to pay taxes than higher-income Californians. It follows that a fair tax system should take a smaller fraction of the income of low-income households.
2. California’s Personal Income Tax Is Highly Progressive, Asking the Most from Those with the Highest Ability to Pay
Californians with higher incomes pay a larger percentage of their income in personal income taxes than people with lower incomes because higher portions of income are subject to higher tax rates.2California’s personal income tax rates range from 1% to 13.3%. The top rate for each tax bracket, or range of income, is only applied to the amount of income that exceeds the income threshold for that bracket. In other words, high-income people face the highest effective tax rates with regard to the personal income tax. Additionally, the state has two refundable tax credits, the California Earned Income Tax Credit (CalEITC) and the Young Child Tax Credit, that provide refunds to families with very low incomes, creating a negative effective tax rate for them. The personal income tax is the state’s largest revenue source.
The progressive structure of the personal income tax also improves racial equity, since Latinx and Black Californians have lower average incomes than white Californians due to racist policies and practices in employment, education, and every other facet of society.3Carl Davis, Marco Guzman, and Jessica Schieder, State Income Taxes and Racial Equity: Narrowing Racial Income and Wealth Gaps with State Personal Income Taxes (Institute on Taxation and Economic Policy, October 2021), 11, https://itep.sfo2.digitaloceanspaces.com/State-Income-Taxes-and-Racial-Equity_ITEP_October2021.pdf; Adriana Ramos-Yamamoto and Monica Davalos, Confronting Racism, Overcoming COVID-19, and Advancing Health Equity (California Budget and Policy Center, February 2021), https://calbudgetcenter.org/resources/confronting-racism-overcoming-covid19-advancing-health-equity/. As a result, the effective state personal income tax rate is lower on average for Latinx and Black families (3.6% and 4.0%, respectively) than for white families (5.0%).4Davis, Guzman, and Schieder, State Income Taxes and Racial Equity, 11-12. Tax agencies do not collect racial or ethnic information, so the Institution on Taxation & Economic Policy estimates effective tax rates by race/ethnicity by combining tax data and US Census Bureau American Community Survey data using a methodology explained here: https://itep.org/itep-tax-model/iteps-approach-to-modeling-taxes-by-race-and-ethnicity.
3. California’s Sales and Excise Taxes Are Regressive, Asking the Most from Those with the Least Ability to Pay
In contrast to the personal income tax, the sales and use tax is regressive. This is because people with lower incomes need to spend larger shares of their income to cover basic needs, so sales taxes take up larger shares of low-income households’ budgets. The sales and use tax is the state’s second-largest revenue source.
Excise taxes, which are taxes on specific goods including gasoline, alcohol, and tobacco, are also highly regressive. Like sales taxes, excise taxes hit people with lower incomes hardest since any money they spend on items subject to excises taxes will generally make up a larger share of their overall budgets compared to high-income people. In addition, since excise taxes are generally based on the volume of the purchase rather than the price, people at all income levels pay the same tax on a given amount of a product, whether they buy an economical brand or a more expensive brand.5Meg Wiehe et al., Who Pays: A Distributional Analysis of the Tax Systems in All Fifty States (Institute on Taxation and Economic Policy, October 2018), 19-20, https://itep.sfo2.digitaloceanspaces.com/whopays-ITEP-2018.pdf.
The 20% of California families with the lowest incomes pay 7.4% of their incomes in combined state and local sales and excise taxes, compared to 0.8% for the richest 1%. Again, because Black, Latinx, and many other Californians of color are more likely to have low incomes than white Californians, regressive taxes like sales and excise taxes exacerbate racial inequity.
4. California’s State and Local Tax System Could Be More Progressive
The overall impact of the state and local tax system on Californians is determined by the combination of the progressive personal income tax and regressive sales and excise taxes, as well as other taxes levied by the state and localities — most notably local property taxes and corporate income taxes. The combined impact is a state and local tax system that is regressive for people with lower incomes and progressive for people with very high incomes. The richest 1% of California tax filers pay the largest share of their income in state and local taxes (12.3%), but the 20% of filers with the lowest incomes pay the next highest share (11.4%). While the richest Californians pay a smaller portion of their income in sales, excise, and property taxes than any other group, it is made up for by the larger share of their income that goes to income taxes. Conversely, while the bottom 20% of Californians on average get money back from the personal income tax system via refundable tax credits, this is not enough to make up for paying larger shares of their income in sales, excise, and property taxes.
5. California’s Tax System Rewards Wealth but Doesn’t Tax Wealth
Wealth inequality is even more pronounced than income inequality, and racial wealth gaps are larger than racial income gaps. Many state tax policies contribute to wealth inequality and racial wealth gaps by providing substantial tax benefits to families who have assets like homes and retirement plans — such as the deductions for mortgage interest and property taxes, the partial tax exemption on the proceeds of home sales, and tax-privileged retirement accounts. Black, Latinx, and other people of color receive less of these tax benefits because — due to structural racism and discrimination — they are less likely to be homeowners, to be in jobs with access to employer-sponsored retirement plans, and to have the financial means to save or invest in assets.6Kayla Kitson, Promoting Racial Equity Through California’s Tax and Revenue Policies (California Budget & Policy Center, April 2021), 5, https://calbudgetcenter.org/resources/promoting-racial-equity-through-californias-tax-and-revenue-policies; Kayla Kitson, Tax Breaks: California’s $60 Billion Loss (California Budget & Policy Center, January 2020), 6-8, 10-11, https://calbudgetcenter.org/resources/tax-breaks-californias-60-billion-loss. At the same time, accumulated or inherited wealth is not taxed in California. Policymakers can eliminate or limit tax benefits that most advantage wealthy families and explore other options to better tax Californians who have amassed large amounts of wealth. The resulting revenues could then be directed to investments that help families who have been shut out from wealth-building opportunities achieve economic security and build wealth.
California policymakers can make the tax and revenue system more equitable.
There are many dimensions to ensuring that a tax system equitably generates the revenue needed for Californians to care for their families, build healthy communities, and contribute to a strong economy. Policymakers need to consider how any tax policy could have disparate effects on Californians by income, wealth, and race/ethnicity — as well as other factors not discussed in this fact sheet, such as gender, family structure, and income source.
The state’s current tax and revenue system is not fair for all Californians. People with the lowest incomes should not be paying larger shares of their incomes in state and local taxes than most other income groups, and the state’s tax policies should work to narrow racial wealth gaps, not widen them.
California policymakers can make the tax and revenue system more equitable. This includes ensuring that Californians with high incomes and wealth pay their fair share to support critical state services, providing further support for Californians with low incomes — such as by increasing and expanding refundable tax credits and making other tax credits refundable to benefit more low-income households — and eliminating or reforming tax benefits that primarily help wealthy Californians. Moving toward more robust taxation of Californians with higher income and wealth would also generate revenues that can be spent equitably to help more low-income households and Californians of color live and thrive, and expand opportunities to build wealth for themselves, their children, and their communities.
Aureo Mesquita and Sara Kimberlin, Staying Home During California’s Housing Affordability Crisis (California Budget & Policy Center, July 2020), https://calbudgetcenter.org/resources/staying-home-during-californias-housing-affordability-crisis/. Data are for 2018. “Low-income California household” is defined as a household with income below 200% of the federal poverty threshold — roughly $51,000 for a family of four in 2018 — and “high-income California household” is defined as a household with income of at least four times the federal poverty threshold — roughly $102,000 for a family of four in 2018.
California’s personal income tax rates range from 1% to 13.3%. The top rate for each tax bracket, or range of income, is only applied to the amount of income that exceeds the income threshold for that bracket.
Californians deserve to have quality education and affordable health care, child care, and housing. To support such services, California’s tax and revenue system needs to generate adequate ongoing resources. Policymakers must regularly examine the state’s revenue system and revise it as needed to fairly raise enough revenue to support services and investments that help Californians thrive in their communities.
California largely relies on three revenue sources — the personal income tax, the sales and use tax, and the corporation tax. Together, they make up 95% of General Fund revenues. General Fund money may be used for any purpose and is the primary source of state support for health and human services, K-12 education, and higher education.
The personal income tax provides more than two-thirds of General Fund revenue. Individuals are taxed on income from sources such as wages, salaries, investments, pensions, and certain types of businesses. Higher portions of income are subject to higher tax rates, ranging from 1% to 12.3%, plus a 1% surtax on income over $1 million for a mental health services special fund.
The next largest revenue source for California is the sales and use tax, making up about one-sixth of General Fund revenues. The sales and use tax is levied on purchases of tangible goods in the state — not services — or the in-state use of goods purchased elsewhere. The statewide sales and use tax rate is 7.25%, but local governments may levy additional taxes.
California’s third-largest revenue source is the corporation tax, providing about one-tenth of General Fund revenues. This is a tax levied on the California profits of corporate businesses at a rate of 8.84%, or 10.84% for financial corporations. California generally taxes the share of a corporation’s income equal to the proportion of their sales that are attributable to California. The remainder of General Fund revenues come from taxes on insurance company premiums, alcoholic beverages, and cigarettes as well as non-tax revenue sources.
It is critical for policymakers and advocates to understand how California raises revenue and identify opportunities to improve the state’s tax and revenue system to equitably generate enough revenues to support services Californians need to thrive. This Fact Sheet is one of a series of publications looking at: the state’s tax and revenue system, tax breaks for the wealthy and large corporations, and how tax policies can better promote economic security for Black, Latinx, Asian, American Indian, and undocumented Californians, and families with low incomes.
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