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Repeal of the Estate Tax Would Reduce Federal Resources While Key Public Services Are on the Chopping Block

October 2017 | By Jonathan Kaplan

The tax plan proposed by President Trump and Republican congressional leaders would among other provisions permanently repeal the federal estate tax, which affects only the very wealthiest Americans – those with estates valued in the top 0.2 percent. Eliminating the estate tax would reduce federal revenue at the same time that the President and Congress have proposed significant spending cuts that would harm many important public services and systems that improve the lives of individuals and families. Outright repeal of the estate tax would follow congressional actions that have eroded this tax over the past couple of decades. Since 2001, for example, Congress has cut the top rate for the estate tax from 55 percent to 40 percent, increased the size of estates that are exempt from the tax, and phased out the portion of the estate tax that is shared with states, a move that eliminated all estate tax revenue received by California.

To help shed light on what’s at stake with the proposed elimination of the federal estate tax, this post describes how this tax works, shows the very small share of Americans it affects, and discusses some fundamental concerns raised by its potential repeal.

What Is the Estate Tax?

The estate tax is levied on large accumulations of wealth that are transferred from the estate of a person who has died to the estate’s beneficiaries. The estate tax serves as a “back stop” to the income tax, ensuring that income that is not taxed during an individual’s lifetime, such as unearned capital gains, is taxed when it passes from one generation to the next.

Repealing the Estate Tax Would Eliminate a Revenue Source That Supports Key Services

The estate tax will raise an estimated $20 billion in 2017, according to the Tax Policy Center, and its repeal would reduce federal revenue by an estimated $240 billion over the next decade. While estate tax revenues are small in comparison to overall federal revenue, they provide funding for a range of essential public services and systems from health care to education to environmental protection. To put this in perspective: The estate tax will raise significantly more in a decade than the federal government will spend on the Food and Drug Administration, the Centers for Disease Control and Prevention, and the Environmental Protection Agency combined, according to the Center on Budget and Policy Priorities. This is despite a decline in estate tax revenue since the late 1990s. For example, during the 10-year period from 1997 through 2006 the estate tax raised more than $300 billion, after adjusting for inflation. This is one-fourth more than the estate tax is projected to raise during the next decade.

The Very Small Share of Americans Who Pay Estate Taxes Today Is a Fraction of Those Who Paid the Tax 20 Years Ago

In 2017, just 2 out of every 1,000 estates are estimated to owe any estate tax. This is one-tenth of the share of estates subject to the tax 20 years ago. In the late 1990s, more than 45,000 estates each year — around 2 percent of those who died — paid estate taxes, but that number is estimated to fall to 5,500 in 2017 (see chart below). This drop is due to a large increase in the size of estates that are exempt from tax. Congress increased the estate tax exemption from $650,000 per person ($1.3 million per couple) in 2001 to $5.49 million per person ($10.98 million per couple) in 2017. Moreover, large loopholes enable many estates to avoid taxes altogether. As a result, less than half of the estimated 11,300 estates that are expected to file an estate tax return will owe any taxes in 2017. And while estate tax opponents claim that the tax burdens small farms and businesses, just 80 of these entities are expected to pay any estate tax this year, according to Tax Policy Center estimates.

The Largest Share of Federal Estate Tax Revenue Comes from California

The federal government collects a much larger share of estate tax revenue from California than from any other state. Californians paid $3.9 billion in estate taxes — more than 20 percent of total federal estate tax revenue — in 2016, the most recent year for which IRS data are available. And more than 1 out of every 5 Americans who paid estate taxes last year resided in California.

The Few Who Owe Estate Taxes Pay Far Less Than the Top Tax Rate

Although the top estate tax rate is currently 40 percent, the Tax Policy Center estimates that in 2017 the average tax rate paid by the few estates subject to the tax will be less than half that amount (17.0 percent). Taxable estates worth between $5 million and $10 million will pay less than a 9 percent tax rate, on average, and those estates worth more than $20 million will pay an average estate tax rate of less than 20 percent. One reason for such a low tax rate is that estate taxes are levied only on the portion of an estate’s value that exceeds the exemption level. For example, the estate of a couple worth $12 million would owe taxes on only around $1 million, based upon the current $5.49 million exemption per person (nearly $11 million a couple). Moreover, policymakers have enacted generous deductions and other discounts that can shield a large portion of an estate’s remaining value from taxation.

The Very Wealthiest Americans Pay the Largest Share of the Estate Tax

The estate tax is the most progressive part of the US tax code because it affects only Americans who are most able to pay. As a result, the estate tax helps make the US tax system more equitable and fair. And the very wealthiest not only account for the largest share of the few Americans subject to the estate tax, but their estates account for the largest share of estate tax revenue. The top 10 percent of income earners account for two-thirds of all estates subject to tax and will pay 88 percent of all estate taxes in 2017, according to Tax Policy Center estimates. Further, the top one-tenth of 1 percent of income earners account for only 4 percent of taxable returns, but will pay $5.5 billion — more than one-quarter of all estimated estate tax revenue this year.

Repealing the Estate Tax: Benefitting the Wealthy Few Would Cost a Lot

Repeal of the federal estate tax would provide a significant tax break to the very wealthiest Americans, including Californians, with this loss of revenue very likely paid for by cuts to vital services that help the less fortunate make ends meet and access greater opportunity. Although the estate tax affects only a small number of the very wealthy, it raises substantial revenue that supports key public systems and services. This makes the proposal to repeal the estate tax particularly unfair, as it comes at the same time that the President and Congress have proposed significant cuts to many of these important services. If Congress acts to eliminate the estate tax, less well-off taxpayers would have to make up for the lost revenue in order to help pay for these services, face reductions to these services, or bear the burden of increases in the national debt, which could eventually force cuts to health care, education, scientific research, and other vital programs.

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This post is the first in a California Budget & Policy Center series that will discuss the tax cuts proposed by President Trump and Republican congressional leaders and explore the implications for Californians and the nation.

Now that Republican leaders in Washington, DC, have moved on from their latest failed effort to repeal the Affordable Care Act, they have quickly turned their attention to a combination of tax cuts and deep spending reductions that together would have dire implications for many low- and middle-income people in California and across the nation. In September, the Trump Administration and leaders in the US House of Representatives and Senate unveiled their unified tax framework, which would provide significant tax cuts that predominantly benefit the wealthy.

Republican leaders are developing the full details of their tax plan in parallel with efforts to enact a budget for fiscal year 2018, and in order to offset the costs of tax cuts they are also seeking draconian cuts in spending on an array of critical programs and services. Congressional rules allow for a “fast track” process to pass tax cuts and certain spending reductions with a simple majority in the Senate (without needing any Democratic votes) — a process known as “reconciliation.” If GOP leaders pursue their proposed tax cuts, they will enact a massive redistribution of wealth that would be, in part, paid for through budget cuts to programs that help low- and middle-income families make ends meet and access greater economic opportunity.

Latest GOP Tax Plan Skews Benefits to the Wealthy

Despite their stated goal of providing a tax cut for middle-class families, the latest GOP framework would provide the vast majority of its benefits to wealthier Americans and corporations. For instance, the current tax framework is most specific about repealing the estate tax;  ending the Alternative Minimum Tax (AMT); cutting corporate tax rates; potentially lowering the highest income tax rates; and preserving tax preferences for mortgage interest — in short, a range of benefits that accrue disproportionately to wealthier households.

In contrast, the tax proposal’s benefits for working families are less explicit — and apparently far less substantial. Based on information released so far, the clearest proposals benefiting middle-class households are a doubling of the standard deduction and an unspecified increase in the Child Tax Credit, though the tax framework also includes some vague language about future “additional measures.” However, accounting for changes like the elimination of personal exemptions and an increase in the bottom marginal income tax rate for some filers, many low- and middle-income families could see little benefit, if any.

Though the President had promised that the rich “will not be gaining at all with this plan,” the numbers tell a different story. In fact, a recent analysis of the GOP tax package points to a vastly unfair distribution of its benefits. According to the nonpartisan Institute on Taxation and Economic Policy, the top 1 percent of households — a group whose annual incomes are at least $615,800 and average over $2 million — would receive over two-thirds of the tax cuts in 2018 (see chart below), an amount equivalent to 4.3 percent of this group’s pre-tax income. The bottom 60 percent of Americans, however, would receive 11.4 percent of the tax cuts, equal to a meager 0.7 percent of this group’s total income. What’s more, these Americans would be most likely to be affected by corresponding federal spending cuts that GOP leaders are proposing to offset the overall cost of the tax cuts.

In other words, the latest GOP tax plan is heavily skewed to benefiting the wealthiest households in the US, likely at the expense of many low- and middle-income households.

The regressive impacts of this tax framework may be even greater in some states. Here in California, an even larger share of the tax cuts — almost 82 percent — would go to just the top 1 percent of earners in 2018, with another 16.6 percent going to the next 4 percent, and the rest of the benefits spread across the remaining income levels (see chart below). The richest 1 percent of California earners — those making more than $864,900 a year — would receive an average tax cut of $90,160. In contrast, middle-income households — making between $47,200 and $75,500 a year — would receive a much smaller average tax cut of $470, and the lowest income households — those making less than $27,300 a year — would receive a tax cut of $120. For many of these low- and middle-income households the benefits of these marginal tax cuts would likely be offset by significant cuts to federal programs and services including health care, housing, food assistance, and job training assistance, among others.  

Revenue Losses Would Hurt the Economy and Struggling Households

The latest GOP plan would also come at a huge cost in lost revenues. Estimates of the resulting revenue loss vary from $2.2 trillion to $2.4 trillion over the next decade. While the plan purports to add $1.5 trillion to the federal debt over the next decade, yet-to-emerge details about the plan and likely compromises on some of the plan’s more controversial proposals (such as the elimination of the federal deduction for state and local taxes, widely known as the “SALT” deduction) could result in a much larger increase in federal debt.

The Trump Administration insists that the tax cuts will boost economic growth and pay for themselves, but analysts agree that this scenario is highly unlikely. Rather, in order to minimize the costs of the tax plan, the GOP would likely respond by attempting to further slash entitlement programs like the Supplemental Nutrition Assistance Program (SNAP), Medicaid, Medicare, and other parts of the federal budget that include funding for housing, job training, and other assistance. These cuts would likely have negative impacts on the economy by destabilizing economic conditions of millions of households who rely upon those programs to help make ends meet and to access greater economic opportunity.

Tax Plan Is Particularly Bad for California

The combination of GOP tax and budget proposals would be particularly harmful for many Californians and for the state of California.

In terms of budget cuts, the significant cuts to Medicaid and SNAP (Medi-Cal and CalFresh in California) would likely result in reduced or eliminated benefits for millions of Californians with low incomes — over 13 million (34.2 percent) who are enrolled in Medi-Cal and over 4 million (10.8 percent) who receive food assistance through CalFresh.

These cuts would also likely undermine California’s fiscal health, forcing state leaders to choose between destabilizing the state budget by trying to fill fiscal holes as a result of federal tax and budget cuts or, on the other hand, destabilizing vulnerable individuals and communities across the state by reducing benefits.

Some California taxpayers would also see significant increases in their tax bills. For instance, the majority of Californians earning $129,500 to $303,200 annually — which can actually be considered a “middle class” income in the many parts of California where costs of living are significantly higher than much of the country — would see a nearly $4,000 increase in their annual federal tax bills. This increase is largely the result of the repeal of the SALT deduction, mentioned earlier.

In short, the GOP tax and budget plans would increase the tax bills of some Californians, providing minimal tax cuts for many others, while reducing vital public assistance, all in pursuit of providing large tax cuts to the very wealthiest households and corporations.

A Better Path

Congress can still choose a more fiscally and economically responsible path. Instead of providing tax cuts that overwhelmingly go to the wealthiest households and corporations, cutting vital public programs and services, losing trillions of dollars in revenues, and adding significantly to the federal debt, Congress could seek to enact policies that move our nation in the right direction. Federal tax and budget policies should focus on making investments that enable our communities to thrive, help the most vulnerable, and broaden economic prosperity. Any federal tax cuts should be weighted toward those who need them most, and should be revenue-neutral, with lost revenues from tax cuts offset by other revenue increases (new taxes or closed loopholes) that are fairly distributed across the income spectrum.

It will be important to pay attention to which path our elected officials in Washington choose in the coming weeks and months. Their actions may mean that Californians would face the prospect of holding their congressional representatives accountable for decisions that would disproportionately — and negatively — impact our state.

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State and National Leaders Must Do More to Promote Economic Security and Opportunity

New Census figures released today show that millions of people in California continue to struggle to get by on extremely low incomes in spite of our state’s recent economic gains. More than 5.5 million Californians, including almost 1.8 million children, lived in poverty in 2016 based on the official poverty measure. In addition, poverty remained more widespread last year than it was in 2007 when the national recession began. Specifically, 14.3 percent of Californians had incomes below the official poverty line in 2016, down from a recent high of 17.0 percent in 2012, but still well above the state poverty rate in 2007 (12.4 percent). Also, roughly 1 in 5 California children lived in poverty last year (19.9 percent), down from a recent high of 23.8 percent in 2012, but still well above the child poverty rate in 2007 (17.3 percent).

The latest Census figures also show that there are stark differences in people’s economic well-being across California’s counties. The 2016 official poverty rate ranged from a low of 6.5 percent to a high of 25.6 percent across the counties, while the official child poverty rate ranged from 5.2 percent to 37.9 percent. More than 1 in 5 people lived in poverty in nine counties, most of which are in the Central Valley (see Map 1). Additionally, more than 1 in 5 children lived in poverty in 16 counties, including six counties — again, most in the Central Valley — where over 30 percent of children were in poverty (see Map 2).

Map 1

Map 2

Download the data for the maps above.

Although the Census figures published today show that poverty remains high, they understate the extent of hardship in California because they reflect an outdated measure of poverty. Census figures released earlier this week based on an improved measure — the Supplemental Poverty Measure (SPM) — which accounts for the high cost of housing in many parts of the state, show that roughly 8 million Californians per year, 1 in 5 state residents (20.4 percent), could not adequately support themselves and their families between 2014 and 2016. Under this more accurate measure of hardship, California continues to have the highest poverty rate of the 50 states.

The new Census poverty figures underscore the need for state and national leaders to do more to ensure that all people can share in our state’s economic progress. Specifically, policymakers should:

  • Reject steep cuts to economic security programs that help families make ends meet and get ahead. A majority of adults will experience economic hardship for at least one year during their prime working years, and nearly half will turn to a major public support, such as SNAP food assistance (CalFresh in California), to get back on their feet. These supports not only lift millions of Californians out of poverty each year, but also help children succeed over the long-term, according to research. Yet federal policymakers have proposed slashing critical supports that promote economic security and opportunity. If enacted, these cuts would drive California’s already high poverty rate even higher and threaten the future of our state’s children. People in communities all throughout the state would likely be harmed.
  • Help families afford decent housing. With housing costs far outpacing many families’ earnings in recent years, it has become increasingly challenging for people with low incomes to keep a roof over their heads. Over half of California renters are housing “cost-burdened,” meaning that they pay more than 30 percent of their income toward housing, and nearly 30 percent are severely housing cost-burdened, spending over half of their income on housing. Since housing costs are most families’ biggest expense, addressing the housing affordability crisis is key to broadening economic security in California. The Legislature is considering a package of bills that would take important first steps toward addressing this crisis through policies that are designed to increase housing supply, including production of affordable units. Given the large scale of the housing crisis, additional strategies outside of the housing arena will also continue to be critical to help families with low incomes pay for basic necessities like housing.
  • Make sure workers earn enough to support themselves and their families. Most families in poverty work, which means that low pay and not enough work hours are key barriers to economic security and opportunity. California has recently made important strides to bolster workers’ economic well-being. For example, the state last year committed to gradually raise the state’s minimum wage to $15 per hour by 2023, and the lowest-paid workers in our state have already seen their hourly earnings increase significantly. California also created and then subsequently expanded the California Earned Income Tax Credit (CalEITC) — a refundable state tax credit that helps low-earning workers pay for basic necessities. Policymakers could build on this progress by increasing the size of the CalEITC and making sure that workers get the full benefit of the rising minimum wage by instituting practices that help part-time workers access additional work hours.
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State and National Leaders Must Do More to Promote Economic Security and Opportunity

Around 8 million Californians — roughly 1 in 5 state residents (20.4 percent) — cannot adequately support themselves and their families, according to new Census figures released this morning based on the Supplemental Poverty Measure (SPM). This measure paints a more accurate picture of economic hardship than the official federal poverty measure in part because it better accounts for the state’s high cost of living (see note below).

The new data show that California continues to have the highest poverty rate among the 50 states largely due to high housing costs. This fact underscores the need for California to do more to increase access to affordable housing in order to promote greater economic security in the state. The new Census data also tell a cautionary tale about the potential impact of policies being pursued by federal policymakers. President Trump and congressional leadership have proposed slashing critical supports that help families afford basic necessities like food and housing, and that lift millions of people above the poverty line each year. If signed into law, these proposals would undoubtedly drive California’s already unacceptably high poverty rate even higher. Given this fact, California’s congressional representatives should reject steep cuts to vital public supports and instead prioritize policies that increase people’s economic security and opportunity.

California’s High Housing Costs Drive Up the State’s Poverty Rate

With 20.4 percent of state residents struggling to get by, California ranks first among the 50 states based on the SPM.[1] California’s No. 1 ranking largely reflects the state’s high housing costs. Unlike the official poverty measure, the SPM accounts for differences in housing costs across the US, and when these costs are factored in, a much larger share of the state’s population is living in poverty: 20.4 percent under the SPM, compared to 14.5 percent under the official measure. In fact, California’s poverty rate rises to the highest among the 50 states under the SPM, up from 16th highest under the official poverty measure.[2]

Housing costs are extremely high in many parts of California. Fair market rent for a modest two-bedroom apartment is more than $1,500 per month in the areas where nearly two-thirds of Californians live. At the same time, monthly rent affordable to a full-time worker at the state minimum wage is only $546 per month, which is less than the fair market two-bedroom rent anywhere in California. Thus there is no part of the state where a single mother with a minimum-wage job can expect to afford an apartment with a bedroom for herself and for her children.

Housing affordability is a problem throughout California, even in areas where housing costs are lower, because incomes are also lower in these areas. Statewide, more than half of renter households pay more than 30 percent of their incomes toward housing, making them housing cost-burdened, and nearly a third of renter households are severely cost-burdened, paying more than half of their incomes toward housing.

Given the crisis of housing affordability throughout the state, it is important to pursue policies that can help slow down rising housing costs and facilitate production of more affordable housing. State policymakers are currently considering a package of bills that would take an important step toward addressing this problem by increasing the production of housing and streamlining the local review process for certain housing projects in places that have not met their “fair share” housing goals. These measures would represent important first steps in providing some relief to families struggling to afford housing, a challenge that California will need to continue working to address in coming years.

Federal Policy Proposals Threaten to Plunge More Californians Into Poverty

The fact that around 8 million Californians struggle to get by — several years after the national recession ended — highlights the need for policies that allow more people to share in our recent economic gains. Yet the policies being pursued by President Trump and congressional leadership would decimate critical public supports that help struggling families and individuals make ends meet, inflicting serious hardship on millions of people.

Indeed, some of the proposed cuts target supports that are proven tools for reducing poverty. For instance, the Supplemental Nutrition Assistance Program (SNAP) — CalFresh in California — lifted around 800,000 Californians, including about 400,000 children, above the poverty line each year, on average, between 2009 and 2012. In addition, the federal Earned Income Tax Credit (EITC) and child tax credit (CTC) lifted nearly 1.4 million Californians, including roughly 700,000 children, out of poverty. Moreover, these supports not only help families get by day to day, but also may provide longer-term benefits to children. Research shows, for example, that food assistance, working-family tax credits, and other supports that help families afford basic needs help children to do better in school and increase their earning power when they grow up.[3] Given these facts, federal policymakers should reject any proposal that would weaken these vital public supports.

*  *  *

Note About the Census Bureau Data Released Today

The state-level figures released today reflect average annual poverty rates during a three-year period, from 2014 to 2016. The SPM addresses a number of shortcomings of the official poverty measure. One is the fact that under the official measure, the income threshold for determining who lives in poverty is the same in all parts of the US. For example, a parent with two children was considered to be living in poverty in 2016 if their annual income was below about $19,300, regardless of whether they lived in a low-cost place like rural Mississippi or a high-cost place like San Francisco. The SPM better accounts for differences in the cost of living by adjusting the poverty threshold to reflect differences in the cost of housing throughout the US. For example, the SPM poverty line for a parent with two children living in a renter household in the San Francisco metropolitan area was about $29,500 in 2016 — considerably higher than the poverty line based on the official measure.

Another shortcoming of the official poverty measure is that it fails to factor in the broad array of resources that families use to pay for basic expenses. The official measure only counts cash income sources, such as earnings from work, Social Security payments, and cash assistance from welfare-to-work programs. It does not take into account noncash resources, such as food or housing assistance, and it fails to consider how tax benefits, such as the federal Earned Income Tax Credit (EITC), increase people’s economic well-being. The SPM improves on the official measure by including these resources. It also better accounts for the resources people actually have available to spend by subtracting from their incomes what is needed to pay for necessary expenses, including work-related expenses, such as child care; medical expenses, such as health insurance premiums and out-of-pocket costs; and state and federal income and payroll taxes.

After incorporating these improvements over the official poverty measure, the SPM produces a more realistic picture of poverty in California: the state’s SPM poverty rate was 1.4 times the official poverty rate between 2014 and 2016 (20.4 percent versus 14.5 percent, respectively).

Although the SPM provides a more accurate picture of economic hardship in California, it does not indicate how much people need to earn to achieve a basic standard of living. Measures of what it actually takes to make ends meet in California show that families need incomes several times higher than the official poverty line to afford basic necessities.

Endnotes

[1] Florida ranks second among the 50 states with 18.7 percent of state residents living in poverty based on the SPM between 2014 and 2016, followed by Louisiana where the poverty rate was 18.4 percent.

[2] In addition, the SPM poverty rate is higher than the official poverty rate for most major demographic groups in California. See Alissa Anderson, A Better Measure of Poverty Shows How Widespread Economic Hardship Is in California (California Budget & Policy Center: October 2016).

[3] See Arloc Sherman and Tazra Mitchell, Economic Security Programs Help Low-Income Children Succeed Over Long Term, Many Studies Find (Center on Budget and Policy Priorities: July 17, 2017).

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California’s 2017-18 budget agreement included a major advance for working families who struggle to get by on low incomes. A “trailer bill” included in the budget package significantly expands eligibility for California’s Earned Income Tax Credit, the CalEITC — a refundable state tax credit that helps people who earn little from their jobs to pay for basic necessities.[1] Specifically, this bill 1) allows previously ineligible self-employed workers to qualify for the CalEITC and 2) raises the credit’s income eligibility limits so that workers higher up the income scale can qualify for it. These changes could extend the credit to well over 1 million additional low-income working families beginning in tax year 2017.[2] This represents a significant expansion of the CalEITC given that around half a million families might have been eligible for it prior to the expansion and that roughly 360,000 have annually claimed the credit since it was established in 2015.[3]

This report provides an in-depth look at what the expanded CalEITC means for low-earning Californians. It finds that the higher income limits will allow many more workers living in or near poverty, including single parents working full-time minimum wage jobs, to become eligible for the credit. However, these newly eligible workers will qualify for very modest credits — less than roughly $230 for those with children and under about $84 for those without children. Thus, while the budget agreement makes an important advance for working families by greatly expanding access to the CalEITC, state policymakers could further strengthen this critical tax credit by increasing the benefit these newly eligible workers can receive in future years.

More Low-Earning Self-Employed Workers Will Gain Access to the CalEITC

Prior to the expansion, the CalEITC was the only EITC in the nation that excluded many self-employed workers, such as small-business owners and independent contractors.[4] This exclusion undermined a fundamental purpose of the EITC: to encourage and reward work. The 2017-18 budget agreement ends this exclusion beginning in tax year 2017. As a result, all self-employed workers who meet all other requirements for the CalEITC will be able to benefit from the credit. This change better aligns California’s EITC with the federal EITC and ensures that the state credit incentivizes all types of paid work.

The Income Limits to Qualify for the CalEITC Will Increase Significantly

Prior to the expansion, many workers who struggled to get by were not eligible for the CalEITC because the income limits to qualify for the credit were extremely low. The budget agreement raises these limits in order to allow additional low-earning workers to qualify for the credit. For workers with qualifying children, the new income limit will be $22,300 beginning in tax year 2017 (Table 1). This is more than double the previous income limit for parents with one child and more than one-and-a-half times the previous limit for parents with two or more children. The budget agreement also more than doubles the income limit for workers without qualifying children, from about $6,700 in tax year 2016 to roughly $15,000 in tax year 2017.

Table 1

Higher Income Limit Means More Minimum Wage Workers Will Qualify for the CalEITC

The higher CalEITC income limits will allow more minimum wage workers to benefit from the credit. Prior to the expansion, many minimum wage workers earned too much to qualify for the credit, even though they earned too little to make ends meet given California’s high cost of living. For example, in tax year 2016, families with one child were not eligible for the CalEITC unless they earned less than about $10,000 a year, a salary that translates into working just 19 hours per week at the state minimum wage (Table 2).[5] Families with two or more children did not qualify for the credit unless they earned less than about $14,000 annually, equivalent to working 27 hours per week at the minimum wage. The CalEITC expansion will allow families to work up to 41 hours per week at the state minimum wage to benefit from the credit.[6] This means, for example, that the CalEITC will become available to single parents working full-time at the minimum wage (Figure 1).

Table 2

Figure 1

For workers without qualifying children, the new CalEITC income limit will increase to $15,010. Since this is less than a full-time minimum wage salary, the credit will not be available to full-time minimum wage workers without qualifying children. Nevertheless, this higher threshold means that these workers will be able to work up to 27 hours per week at the minimum wage and still qualify for the credit, up from just 13 hours per week to qualify previously.[7]

Higher CalEITC Income Limit Means More Working Families in Poverty Will Qualify for the CalEITC

Raising the income limits to qualify for the CalEITC will not only allow more minimum wage workers to benefit from the credit, but will also make the credit available to more workers living in or near poverty. Prior to the expansion, the CalEITC’s income limits fell well below the official federal poverty line. As a result, many workers living in poverty were not eligible for the credit. For example, single parents with one child had to earn less than about 62 percent of the poverty line to qualify for the credit. Beginning in tax year 2017, these parents can have incomes up to about 135 percent of the poverty line and still be eligible for the credit (Figure 2). Raising the income limits closer to or above the poverty line is important because many families with incomes this low struggle to afford basic expenses, particularly in high-cost areas of the state.

Figure 2

CalEITC Will “Phase Out” More Gradually, Allowing Workers Higher Up the Income Scale to Qualify

The size of the CalEITC for a particular family or individual depends on how much they earn and how many children they support. Specifically, the credit “phases in” (increases) for higher levels of earnings up to a certain maximum point, after which the credit “phases out” (decreases) for higher levels of earnings until it reaches $0. The budget agreement extends the CalEITC to workers higher up the income scale by phasing out the credit more slowly beginning at an income of $13,794 for workers with two qualifying children (Figure 3).[8] This is the income level at which these parents are estimated to qualify for a CalEITC of $250 in tax year 2017. For workers without qualifying children, the budget package phases out the CalEITC more gradually beginning at an income of $5,354 — the point at which these workers are estimated to qualify for a CalEITC of $100 in tax year 2017.

Figure 3

Most workers who previously qualified for the CalEITC will see no change in the size of the credit, while some will receive slightly larger credits. For example, there will be no change in the credit for parents with two qualifying children and earnings of up to $13,794 (Table 3). Those with incomes between $13,794 and $14,529 will qualify for slightly larger credits. For instance, a parent with two children and earnings of $14,000 will qualify for an estimated $244 from the CalEITC under the expansion, up from an estimated $180 if the credit had not been expanded. Workers with two children and incomes between $14,529 and about $22,300 will newly qualify for the CalEITC.

Table 3

Newly Eligible Workers Will Qualify for Very Modest Credits

Workers who become eligible for the CalEITC because of the higher income limits will qualify for very modest credits. Those with qualifying children will be eligible for roughly $230 or less, depending on their earnings. For example, a worker with two children could qualify for about $214 if she earns $15,000 or $126 if she earns $18,000 (Figure 4). Workers without qualifying children who become eligible for the CalEITC under the expansion will be able to receive about $84 or less, depending on their earnings. For instance, these workers would be eligible for about $84 if they earn $7,000 annually or $52 if they earn $10,000 annually.

Viewed another way, families working a total of 30 hours per week in 2017 at the state minimum wage (earning an annual salary of $16,380) will be eligible for an estimated $115 from the CalEITC if they have one qualifying child, $174 if they have two qualifying children, or $176 if they have three or more qualifying children (Table 4).[9] If the CalEITC had not been expanded in this year’s budget agreement, these workers would not have qualified for the credit at all.

Figure 4

Table 4

Conclusion

Creating the CalEITC was an important advance in how our state helps workers with low incomes to better afford basic necessities and move toward financial security. The 2017-18 budget agreement greatly strengthens this vital tax credit by extending it to well over 1 million additional low-income working families. Although many of the newly eligible workers will qualify for very modest credits, the budget deal lays the foundation for further strengthening the CalEITC, as state policymakers can build on these changes in coming years by increasing the size of the credit that newly eligible workers can receive.

Endnotes

[1] Senate Bill 106 (Committee on Budget and Fiscal Review, Chapter 96 of 2017).

[2] Institute on Taxation and Economic Policy (ITEP). ITEP’s estimate is subject to some uncertainty. This estimate is largely based on Internal Revenue Service (IRS) data on California tax filers who claim the federal EITC. However, only around 75 percent of Californians who are eligible for the federal EITC are estimated to actually claim the credit each year. This means that California’s federal EITC participation rate is implicitly assumed in ITEP’s estimate. In other words, this estimate may be understated to the extent that expanding the CalEITC encourages workers who qualify for the federal EITC, but who do not typically file their taxes, to file in order to benefit from the state credit. On the other hand, ITEP’s estimate could be overstated  given that the CalEITC appears to be undersubscribed. ITEP estimates that 553,000 tax units could have claimed the CalEITC in 2016, but actual claims were around 360,000. This suggests that ITEP’s estimate of the number of families who could benefit from the expanded CalEITC could be too high if many workers who are eligible for the credit continue to miss out on it in coming years.

[3] It is not known exactly how many families are eligible for the CalEITC. Estimates prior to the expansion ranged from around 400,000 to 600,000. Soon after the credit was signed into law, the Franchise Tax Board estimated that roughly 600,000 families would likely be eligible for it. (Personal communication with the Franchise Tax Board on September 22, 2015.) Similarly, a Stanford University analysis of US Census Bureau data estimated that approximately 600,000 families would have been eligible for the CalEITC if it had been in place in tax year 2013. (Christopher Wimer, et al., Using Tax Policy to Address Economic Need: An Assessment of California’s New State EITC (The Stanford Center on Poverty and Inequality: December 2016).) A more recent Budget Center analysis of US Census Bureau data estimated that around 416,000 families might have been eligible for the credit in tax year 2015. Additionally, ITEP’s analysis of IRS data suggests that about 550,000 families were likely eligible in tax year 2016. (Personal communication with the Institute on Taxation and Economic Policy on May 6, 2016.)

[4] Prior to the expansion, families and individuals who had self-employment income in addition to “earned income” qualified for the CalEITC if their federal adjusted gross income (AGI) was below the income limit. (“Earned income” was defined as annual wages, salaries, tips, and other employee compensation subject to wage withholding pursuant to the state Unemployment Insurance Code. Federal AGI includes both earned income and self-employment income, as well as several other types of income.) For these tax filers, the size of the CalEITC was based on their “earned income” if their federal AGI was below the income level needed to qualify for the maximum CalEITC. In contrast, if their federal AGI was at or above this threshold, then the size of the CalEITC was based on either their “earned income” or their federal AGI, whichever resulted in a smaller credit. Prior to the expansion, self-employed workers who had no “earned income” were not eligible for the CalEITC. These workers will qualify for the CalEITC beginning in tax year 2017, as long as they meet all other requirements for the credit.

[5] Earnings refer to annual earnings for the entire family.

[6] This means that in a family with one working parent, that parent can work up to 41 hours per week and still qualify for the credit. Families with two married working parents who file joint tax returns  could work a combined total of up to 41 hours per week at the minimum wage and still qualify for the credit.

[7] This means that single workers without qualifying children can work up to 27 hours per week at the minimum wage and still qualify for the credit, while married workers without qualifying children can work a combined total of up to 27 hours per week and still qualify for the credit. Most state EITCs base their credits on the same eligibility rules as the federal EITC, which means that all workers who qualify for the federal credit also qualify for the state credit. In contrast, prior to the expansion, the CalEITC was available to just a fraction of those who qualified for the federal EITC because the income limits to qualify for the state credit were extremely low. Beginning in tax year 2017, the new CalEITC income limit for workers without children will match the federal EITC threshold that applies to these workers (Table 1). As a result, all Californians without qualifying children who are eligible for the federal EITC will also be eligible for the CalEITC. The new CalEITC income limits for parents will also be closer to the federal EITC thresholds, which range from about $39,600 to about $48,300 for single parents, depending on the number of children they are supporting.

[8] For workers with three or more qualifying children, the credit begins to phase out more slowly at an income of $13,875 and for workers with one qualifying child, the credit begins to phase out more slowly at an income of $9,484. These income levels do not reflect the income levels specified in SB 106 due to errors in the bill. These income levels will be corrected in a subsequent bill later this fall. (Personal communication with the Department of Finance (DOF) on July 24, 2017.)

[9] Eligibility for the CalEITC is based on annual earnings for the tax filer (for unmarried workers) or the combined annual earnings of the tax filer and his or her spouse (for married couples filing taxes jointly). In other words, families will be eligible for an estimated CalEITC of $115 if they have one working parent who earns $16,380 or two married working parents who earn a combined total of $16,380.

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Senate Bill 562 (Lara and Atkins), which would establish a single-payer health care system with universal coverage in California, was approved by the state Senate in early June, but has stalled in the Assembly. Although it appears that SB 562 will not move forward in 2017, a single-payer proposal could be revived in 2018. This post is the first in a series examining key issues related to SB 562 and, more generally, to efforts to create a universal, single-payer health care system in California. Future posts in this series will examine estimates of how much a single-payer system could cost, proposals for raising the state revenues needed to fund such a system, and other issues.

Senate Bill 562’s Vision for Single-Payer Health Care in California

As envisioned in SB 562, all Californians could enroll in a new “Healthy California” program that would provide a broad range of services, including health, dental, vision, mental health, chiropractic, and hospice care. Under this system, private health insurers and health care service plans generally would be prohibited from providing coverage for services available through Healthy California, and enrollees would pay no premiums, co-pays, or deductibles. Instead, the state — as the “single payer” — would fund the full array of services using both state and federal tax revenues.

Implementing a Single-Payer System in California Would Require Large State Tax Increases

Implementing the single-payer system envisioned in SB 562 would require state tax increases exceeding $100 billion, and possibly as high as $200 billion. SB 562 does not contain the state tax increases that would be needed to fully finance its proposed Healthy California program. Instead, the bill assumes that these tax increases would be approved at a later date. SB 562 also specifies that the Healthy California program would not be implemented until the necessary financing was in place.

The new state taxes needed to fund a single-payer health care system as envisioned in SB 562 could be raised in various ways. For example, the Legislature could pass a bill that increases taxes, which would require a supermajority (two-thirds) vote of each house as well as the Governor’s signature. Alternatively, single-payer proponents could use the initiative process to qualify a tax measure for the statewide ballot. A ballot initiative would require only a simple majority of California voters in order to pass.

Revenues to Support a Single-Payer System in California Would Be Deposited Into a Special Fund, Not the General Fund

As outlined in SB 562, state and federal revenues needed to finance the Healthy California program would be deposited into a new state special fund called the “Healthy California Trust Fund.” In other words, these revenues — including those raised by new state taxes — would not go into the General Fund, which contains state revenues that are not designated for a specific purpose.

The State Tax Increases Required to Implement a Single-Payer System in California Would Face Constitutional Obstacles

Any effort to boost taxes in California must take into account certain provisions in the state Constitution that affect the state’s ability to raise and spend revenues. One of these provisions was discussed above: the two-thirds vote requirement for passing tax increases in the Legislature, which sets a high bar for raising taxes through legislation. Two other key constitutional provisions are:

  • Proposition 4 of 1979. Prop. 4 established a constitutional state spending limit that is known as the “Gann Limit.” The original Gann Limit was later modified by two ballot measures: Prop. 98 of 1988 and Prop. 111 of 1990. According to the state Senate Appropriations Committee analysis of SB 562, “the very large tax revenues that this bill would require…would clearly exceed the Gann Limit.” Overcoming this obstacle would require the voters to either repeal the Gann Limit or exempt the new taxes from the limit, the Senate analysis suggests.
  • Prop. 98 of 1988. Prop. 98, as modified by Prop. 111 of 1990, constitutionally guarantees a minimum level of funding for K-12 schools and community colleges. The state Senate Appropriations Committee analysis of SB 562 declares that, “Any taxes raised to support this bill would be considered the proceeds of taxes and would be subject to the requirements of Proposition 98.” This would result in some of the new tax revenues going to K-14 education. In order to avoid this outcome, California voters would have to exempt the new taxes from Prop. 98, the Senate analysis suggests.

In short, in the view of the Senate’s fiscal experts, lawmakers and the Governor could unilaterally create a single-payer system, but they could not implement such a system without asking the voters to resolve some fundamental issues.

Key Single-Payer Proponents: Voter Approval May Not Be Necessary to Address the Obstacles Posed by the Gann Limit and Prop. 98

The primary proponent of SB 562 is the California Nurses Association (CNA). In a rebuttal to a recent article on the politics of SB 562, the CNA makes the following assertion: “There are ways in the bill to address the constitutional issues posed by both Prop. 98 and the Gann Limit….[W]e are developing these legislative approaches.” In other words, the CNA implies that there is a strictly legislative solution to the issues raised by the Gann Limit and Prop. 98, and that voters don’t necessarily need to weigh in. The CNA does not explain how it reaches this conclusion, although the association indicates that it is consulting with “constitutional legal experts.”

In addition, former state Senator Sheila Kuehl — a longtime single-payer advocate — recently “rejected suggestions that lawmakers could not find creative ways to work within existing constitutional limits.” Kuehl is quoted as saying: “That theory won’t fly…I don’t think [the constitutional limits] would actually be a problem.”

In short, in the view of key single-payer advocates, the Legislature could not only create a single-payer system and raise the taxes needed to fund it, but could also as part of the same legislation address the constitutional constraints posed by the Gann Limit and Prop. 98 without seeking voter approval.

Could Single-Payer Proponents Address the Obstacles Posed by the Gann Limit Solely Through the Legislative Process, Without Going to the Voters?

The short answer:

It’s very unlikely that single-payer advocates could address the obstacles posed by the nearly four-decade-old state spending limit without going to the voters.

The long answer:

The Gann Limit aims to “keep [inflation-adjusted] per capita government spending under the 1978-79 level,” according to the nonpartisan Legislative Analyst’s Office (LAO), which provides fiscal and policy advice to the Legislature. This spending limit applies to “appropriations from proceeds of taxes,” the LAO explains. “Essentially, this means that appropriations from tax levies are subject to the limit,” although several types of expenditures are exempt from the limit. These include, but are not limited to, appropriations for debt service or court-mandated costs as well as from certain gas tax revenues.

As noted above, implementing a single-payer system in California would require tax increases exceeding $100 billion, and possibly as high as $200 billion. These revenues would be considered “proceeds of taxes,” all of which would be used to fund (i.e., would be appropriated for) health care and related services through the new Healthy California program. Moreover, expenditures for a single-payer system would not be exempt from the Gann Limit as it is currently structured. Consequently, a tax increase of $100 billion or more would push state expenditures well beyond the Gann Limit threshold. (Currently, the state has only a few billion dollars in “room” under the limit.) Barring the discovery of a previously unidentified loophole, the only way to avoid exceeding the Gann Limit would be to exempt from that limit the new revenues intended to fund a single-payer system. This would require amending the state Constitution – something that only California voters could do.

Could Single-Payer Proponents Address Any Obstacles Posed by Prop. 98 Solely Through the Legislative Process, Without Going to the Voters?

The short answer:

In theory, the Legislature could pass — and the Governor could sign — a bill that raises taxes by $100 billion or more, with none of the new state revenues going to K-12 schools and community colleges via the Prop. 98 minimum funding guarantee. However, such an approach would leave the state vulnerable to legal challenges, and any resulting litigation would jeopardize some or all of the new state revenues needed to finance a single-payer system.

The long answer:

The state Constitution refers to “General Fund revenues” and “General Fund proceeds of taxes” in describing the calculations that help to determine K-14 education’s share of the state budget each year. In other words, special fund revenues are not explicitly mentioned as a factor in calculating the Prop. 98 minimum funding guarantee. This is a critical point: As noted above, SB 562 would deposit the tax revenues needed to support a single-payer system into a special fund, rather than into the state’s General Fund.

However, there is disagreement regarding the relationship between Prop. 98 and state tax revenues. There appear to be at least two competing schools of thought.

One school of thought suggests that state policymakers could — without violating Prop. 98 — raise taxes and deposit all of the revenues into a special fund without any of the new dollars going to K-14 education. This view is clearly expressed in a legal argument drafted in 2012 by the Brown Administration in response to a lawsuit filed by K-12 school officials. (This lawsuit was rendered moot by the passage of Prop. 30 in November 2012 and was therefore dismissed by an appellate court before being resolved.)

This lawsuit stemmed from the state’s decision to redirect a portion of sales tax revenues to counties in order to fund an array of services that were transferred — or “realigned”— to counties beginning in 2011. State policymakers shifted these sales tax revenues out of the General Fund and into a new special fund dedicated solely to the realigned programs. In doing so, the state excluded these revenues from the calculation of the Prop. 98 minimum funding guarantee.

The Administration’s argument in this case included the following assertions:

  • The sales tax revenues dedicated to the 2011 realignment “are not General Fund revenues. They are never deposited into the General Fund, and unlike General Fund revenues they are not available for general appropriations.”
  • “Revenues that are never part of the General Fund cannot be treated as ‘General Fund revenues.’”
  • “Special funds with dedicated revenue streams…have historically not been treated as General Fund revenue, and are excluded from the Prop. 98 calculation.”
  • “It would be an unprecedented transgression on the Legislature’s authority for a court to decree that funds designated as special fund revenues be treated as ‘General Fund revenues’ for any purpose, including the calculation required by Prop. 98.”

These are strong arguments, but they’re not the end of the story. There’s at least one other school of thought regarding the relationship between Prop. 98 and state revenues. This view holds that the term “General Fund,” as used in the state Constitution, should be understood to encompass a broader range of revenues than those that are deposited into the “General Fund” established by state law. This perspective appears to be based on a particular understanding of the intent of Prop. 98, one goal of which was to take “school financing out of politics,” according to the 1988 ballot argument. This view also seems to reflect concerns about the long-term funding prospects for K-14 education if the Legislature were to use its discretion to direct more and more revenues into special funds that are separate from the General Fund — and seemingly outside the purview of Prop. 98.

To some degree, this line of thinking was expressed by K-12 school officials in the 2012 lawsuit described above and surfaces from time to time in the Legislature. For example, this view is evident in the Senate Appropriations Committee analysis of SB 562, which declares that: “In the context of Proposition 98, the term ‘General Fund’ revenue refers to state tax revenues, not simply revenues that are deposited in the state’s General Fund. Any taxes raised to support [a single-payer system under SB 562] would be considered the proceeds of taxes and would be subject to the requirements of Proposition 98.”

Given these two competing interpretations, the state could be vulnerable to a lawsuit if policymakers raised taxes by $100 billion or more and deposited these revenues into a special fund, with none of these dollars going to K-14 education. Lawmakers could attempt to dissuade potential litigants by adding a so-called “poison pill” to the bill. Such a provision would trigger a severe consequence — such as automatically repealing the new taxes – if a court ultimately found the state’s use of the revenues to be in conflict with Prop. 98. The Legislature included Prop. 98-related poison pills in four bills in the late 1980s and early 1990s. For example, policymakers in 1991 raised the state sales tax rate by a half-cent and directed all of the revenues into a new special fund dedicated to counties. These revenues were — and continue to be — excluded from the Prop. 98 calculation. The bill included a poison pill that would end this tax increase “if a court ruled that the revenues counted toward” the Prop. 98 minimum funding guarantee, according to the LAO. In all four cases, “none of the consequences set forth in the poison pill provisions ultimately occurred,” the LAO notes.

So yes, there may be a way for single-payer advocates to address any constitutional obstacles posed by Prop. 98 solely through the legislative process, without going to the voters. However, this path would leave the state vulnerable to a lawsuit that could put at risk the tax revenues needed to fully finance a single-payer system in California.

Concluding Thoughts

In any state, efforts to create a single-payer health care system would encounter a number of policy, fiscal, and political challenges. In California, these inherent difficulties are magnified by the complex rules that voters have added to the state Constitution — rules that restrict state policymakers’ ability to increase revenues and expenditures as well as to prioritize how new tax dollars should be spent.

In the context of recent attempts to establish a single-payer system in California, there are two fundamental constitutional constraints: 1) the state spending limit known as the Gann Limit and 2) the Prop. 98 minimum funding guarantee for K-14 education. Some single-payer advocates have asserted that these obstacles could be overcome solely through the legislative process without consulting the voters. This is highly unlikely with respect to the Gann Limit, barring the discovery of some as-yet-unidentified loophole. The story is somewhat more complicated with respect to Prop. 98. In theory, state legislators and the Governor could raise taxes by $100 billion or more to support a single-payer system, with none of these revenues going to K-12 schools and community colleges. Yet, this approach would be highly vulnerable to legal challenges that would put at risk some or all of the new state revenues needed to finance a single-payer system.

Addressing these constitutional constraints without seeking voter approval would likely create an extremely shaky legal foundation for a new single-payer system. Even under the best of circumstances, implementing a single-payer model would be a highly complex undertaking. Restructuring California’s current health care system — which comprises one-seventh of the state’s economy — would involve many moving pieces and uncertainties, and the transition would likely need to be phased in over time. Unnecessarily exposing a single-payer system to litigation in its infancy would hamper efforts to ensure a smooth transition and could undercut the long-term success of this new, state-based health care financing model.

In short, rather than trying to devise a clever — and likely counterproductive — way to avoid going to the ballot, single-payer advocates would be well-advised to ask California voters to remove the key constitutional obstacles to the implementation of a single-payer system.

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Executive Summary

On June 27, Governor Brown signed the 2017-18 state budget bill. This year’s budget agreement includes a number of improvements over earlier proposals, though the overall scope of state investments remains constrained by uncertainty about potential federal policy changes. The 2017-18 budget package:

  • Expands the California Earned Income Tax Credit (CalEITC) to well over 1 million additional families by expanding the credit to the self-employed and increasing the income eligibility limits.
  • Reflects an agreement between the Governor and legislative leaders over how to spend Proposition 56 tobacco tax revenues for Medi-Cal, with this funding going to supplemental payments for Medi-Cal providers and also to covering ordinary spending growth in the program.
  • Continues a multiyear reinvestment in subsidized child care and preschool that the Governor had proposed to delay in January. This includes increasing reimbursement rates for providers and adding full-day preschool slots. The enacted budget also increases access to subsidized care by raising income eligibility limits and establishing a 12-month eligibility period.
  • Requires counties to pay a larger share of In-Home Supportive Services (IHSS) costs, but includes temporary funding and other provisions to mitigate the impact of this cost-shift.
  • Mitigates a reduction in core funding for counties’ delivery of CalWORKs welfare-to-work services based on an expected decline in caseload and makes other small additional investments in welfare-to-work services.
  • Continues to increase funding for K-14 education as required by the Prop. 98 guarantee.
  • Includes dedicated resources to respond to federal action on immigration, including support for people seeking help with naturalization, deportation defense, and securing legal immigration status.

The budget package sets aside $3.6 billion as constitutionally required by Prop. 2 (2014), with half deposited in the state’s rainy day fund and half used to pay down state budgetary debt. The budget package also includes a supplemental $6 billion payment for the California Public Employees’ Retirement System (CalPERS), using funds borrowed from a state short-term investments account. Other notable elements include a significant restructuring of the state Board of Equalization as well as a transportation package agreed to by state leaders earlier this year, which will invest more than $50 billion over 10 years in state and local infrastructure through increases in fuel and vehicle-related taxes and fees.

The budget package makes no increases in basic income support for low-income seniors and people with disabilities (SSI/SSP) and lacks any proposals to address California’s affordable housing crisis.

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Budget Package Projects Increase in Revenues, Continues to Boost State Reserves

The budget package projects General Fund revenues of $127.7 billion for 2017-18. This represents an increase of $6.1 billion over the current fiscal year (2016-17) and also reflects a modestly improved revenue picture compared to the Governor’s January projection of $125.2 billion for 2017-18 (an increase of $2.5 billion).

Of the $127.7 billion in projected General Fund revenues, $1.8 billion is taken “off the top” and transferred to the Budget Stabilization Account (BSA), the state’s constitutional “rainy day fund.” California voters revised the rules that apply to the BSA by passing Proposition 2 in November 2014. Prop. 2 requires an annual set-aside equal to 1.5 percent of estimated General Fund revenues. An additional set-aside is required when capital gains revenues in a given year exceed 8 percent of General Fund tax revenues. For 15 years — from 2015-16 to 2029-30 — half of these funds will be deposited into the rainy day fund, and the other half will be used to reduce certain state liabilities (also known as “budgetary debt”).

The enacted budget projects that the BSA will total $6.7 billion by the end of the current fiscal year (2016-17). Based on projected revenues for 2017-18, Prop. 2 constitutionally requires the state to deposit an additional $1.8 billion into the BSA (as well as set aside $1.8 billion for repaying budgetary debt), bringing the total amount in the BSA to $8.5 billion by the end of 2017-18.

The BSA is not California’s only reserve fund. Each year, the state deposits additional General Fund revenues into a “Special Fund for Economic Uncertainties” (SFEU). The enacted budget includes $1.4 billion for this fund, bringing state reserves to a total of $9.9 billion (BSA + SFEU) by the end of 2017-18.

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Budget Agreement Expands the CalEITC

The California Earned Income Tax Credit (CalEITC) is a refundable state tax credit that state policymakers established in June 2015. This credit, modeled after the federal EITC, helps working families who earn very little from their jobs to better afford basic necessities. Around 350,000 families benefited from the CalEITC in tax year 2016 — the second year that the credit was available. Single parents with multiple qualifying children received an average of roughly $1,000 from the CalEITC, while workers without qualifying children received an average of about $100.

The 2017-18 budget agreement significantly expands the CalEITC so that well over 1 million additional families could benefit from the credit beginning in tax year 2017. Specifically, the budget agreement:

  • Allows low-earning self-employed workers to be eligible for the credit. Currently, the CalEITC is the only EITC in the nation that excludes many low-earning, self-employed workers. This exclusion undermines a fundamental purpose of the EITC: to encourage and reward work. The budget deal ends this exclusion, bringing the state credit into better alignment with the federal credit. This change means that independent contractors and small business owners who meet all other eligibility criteria will be able to benefit from the CalEITC beginning in tax year 2017.
  • Raises the income limits to qualify for the credit. Many workers who struggle to get by are not eligible for the CalEITC because the income limits to qualify for the credit are extremely low. Parents are not eligible for the credit unless their annual earnings are less than around $10,000 to $14,000, depending on the number of children they are supporting. Workers without qualifying children are not eligible unless they earn under about $6,700 annually. These income limits are so low that full-time minimum wage workers earn too much to qualify for the credit, even though they typically earn too little to make ends meet. The 2017-18 budget agreement raises the income limits to qualify for the CalEITC beginning in tax year 2017, thereby allowing many more low-earning workers to benefit from the credit. For parents with qualifying children, the limit will increase to just over $22,000 — roughly equivalent to a full-time, year-round minimum wage worker’s annual earnings. The new limit for parents will also be closer to the threshold to qualify for the federal EITC, which ranges from about $39,600 to about $48,300 for single parents, depending on the number of children they are supporting. For workers without qualifying children, the CalEITC limit will increase to about $15,000 — roughly equal to the threshold for these workers to qualify for the federal EITC.
  • Maintains support for CalEITC promotion. Awareness of the CalEITC appears to be low, and many people who were eligible for the credit during its first two years appear to have missed out on it. Lower-than-expected take-up of the CalEITC likely reflects the fact that the majority of workers who are eligible for the credit are not required to file state income taxes due to their very low incomes. In other words, many eligible workers may not realize that they can receive a tax refund even if they do not owe state income taxes. For this reason, promoting the CalEITC is critical to maximizing the credit’s success. The 2017-18 budget includes $2 million to maintain a grant program created last year that is designed to help communities expand their efforts to promote the CalEITC. The budget also provides about $5.8 million to the Franchise Tax Board to administer the CalEITC, including the processing and auditing of tax returns that claim the credit.

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Budget Package Updates Eligibility Guidelines and Continues Multiyear Investment in Early Care and Education

The 2017-18 budget package continues implementation of the multiyear investment in California’s subsidized child care and development system, as included in the 2016-17 budget agreement. The budget package also takes an important step forward in updating income eligibility guidelines for subsidized programs, which have not been updated in a decade. Specifically, the budget package:

  • Provides $160.3 million to increase the reimbursement rate for providers that contract directly with the state. The budget increases by 5 percent the Standard Reimbursement Rate (SRR), the payment rate for providers contracting with the state ($43.7 million Proposition 98, $23.9 million non-Prop. 98 General Fund). This increase takes effect July 1, 2017, and reflects the second half of a 10 percent increase included in the 2016-17 budget agreement. In addition, the 2017-18 budget increases the SRR by an additional 6 percent, also effective July 1, 2017 ($60.7 million Prop. 98, $32 million non-Prop. 98 General Fund).
  • Provides $40.6 million General Fund to update the payment rate for voucher-based providers. Families can access subsidized care by using a voucher to select a child care provider of their choice. The value of these vouchers is based on the state’s Regional Market Rate (RMR) Survey, which is conducted on a periodic basis. The budget package increases the value of vouchers by updating rates to the 75th percentile of the 2016 RMR Survey, effective January 1, 2018.
  • Provides $25 million General Fund to update income eligibility limits and implement a 12-month eligibility period. The budget agreement updates income eligibility limits using the most current state data on family incomes. The budget also establishes a 12-month eligibility period, where families remain eligible regardless of changes in income or need, as long as family income does not exceed 85 percent of state median income. These changes bring California into compliance with the federal Child Care and Development Block Grant rules and take effect July 1, 2018.
  • Provides $15.5 million General Fund to create a “child care bridge” for children in foster care. In participating counties, the Emergency Child Care Bridge Program for Foster Children will help foster care families find and pay for short-term child care services, effective January 1, 2018.
  • Provides $7.9 million Prop. 98 General Fund to increase the number of slots in the state preschool program. The budget package adds 2,959 full-day state preschool slots beginning March 1, 2018, as stipulated in the original multiyear plan in the 2016-17 budget agreement.

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Budget Package Boosts the Minimum Funding Level for Schools and Community Colleges

Approved by voters in 1988, Proposition 98 constitutionally guarantees a minimum level of funding for K-12 schools, community colleges, and the state preschool program. The 2017-18 budget agreement assumes the same Prop. 98 funding levels for 2015-16 ($69.1 billion) and 2016-17 ($71.4 billion) as the May Revision, and a 2017-18 Prop. 98 funding level of $74.5 billion, slightly lower ($77 million) than the May Revision. The Prop. 98 guarantee tends to reflect changes in state General Fund revenues, and while the May Revision’s estimates of 2015-16 revenues were up relative to assumptions in January’s budget proposal, the May Revision’s 2015-16 Prop. 98 funding level was actually greater than the minimum funding guarantee based on the May revenue estimates. Because calculations of the Prop. 98 guarantee are usually based on prior-year funding levels, the 2015-16 Prop. 98 funding level in the budget agreement leads to higher Prop. 98 funding levels in 2016-17 and 2017-18 than the minimum funding guarantee otherwise would have required.

The budget agreement also includes two provisions that affect the Prop. 98 guarantee for 2016-17. The first provision suspends an additional payment that is statutorily required in years when the Prop. 98 guarantee would grow less quickly than the rest of the state budget; this reduces the 2016-17 Prop. 98 guarantee by $405 million from $71.3 billion to $70.9 billion. The second provision allocates up to $514 million in 2016-17 Prop. 98 spending as a settle-up payment for prior-year obligations if Prop. 98 spending exceeds the minimum guarantee in that year. Because actual 2016-17 Prop. 98 spending is $71.9 billion, $993 million above the minimum funding guarantee, the new budget agreement allocates the full $514 million as a settle-up payment, resulting in a 2016-17 Prop. 98 funding level of $71.4 billion.

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Budget Increases Support for the Local Control Funding Formula (LCFF) and Other K-12 Spending

California’s school districts, charter schools, and county offices of education (COEs) provide instruction to approximately 6.2 million students in grades kindergarten through 12. Consistent with proposals made in the January budget and the May Revision, the budget agreement increases funding for the LCFF — the state’s K-12 education funding formula — and pays off outstanding obligations to school districts. Specifically, the budget agreement:

  • Provides $1.4 billion to continue implementation of the LCFF. The LCFF provides school districts, charter schools, and COEs a base grant per student, adjusted to reflect the number of students at various grade levels, as well as additional grants for the costs of educating English learners, students from low-income families, and foster youth. The increase in LCFF funding may reduce the amount of time it takes for its full implementation, which depends on funding sufficient for all districts to reach a target base grant. (All COEs reached their LCFF funding targets in 2014-15.) According to the Administration, the 2017-18 LCFF funding level in the budget agreement would bring the LCFF formula “to 97 percent of full implementation.”
  • Provides $877 million in one-time funding to reduce mandate debt the state owes to schools. Mandate debt reflects the cost of state-mandated services that school districts, charter schools, and COEs provided in prior years, but for which they have not yet been reimbursed.
  • Provides an additional $50 million, for a total of $600 million, in ongoing funding for the After School Education and Safety (ASES) Program. The boost in ASES’ funding will help cover costs for implementing new minimum wage obligations.
  • Provides $30 million in one-time funding for teacher workforce programs. The budget agreement provides $25 million, to be available through 2021-22, for a second cohort of school employees to obtain their teaching credential through the Classified School Employee Teacher Credentialing Program. The budget agreement also provides $5 million in competitive grants, to be available through 2019-20, for a newly established Bilingual Teacher Professional Development Program to help California meet the demand for bilingual teachers needed to implement programs authorized by voter approval of Proposition 58 last November.
  • Provides $10 million in one-time funding to support refugee students. The budget agreement requires the Department of Social Services to allocate these dollars between 2017-18 and 2019-20 to school districts that are impacted by significant numbers of refugee students.
  • Maintains cost-of-living adjustments (COLAs) for non-LCFF programs. Consistent with the May Revision, the budget agreement provides an additional $3.2 million to fund a 1.56 percent COLA, up from the 1.48 percent COLA proposed in the January budget, for several categorical programs that remain outside of the LCFF. These include special education, child nutrition, and American Indian Education Centers.
  • Includes provisions to increase accountability for general obligation (GO) school facilities bond funds approved by voters last November. Proposition 51 authorized $7 billion in state GO bonds for K-12 school facilities. However, the Governor’s May Revision stated that the Administration would only support the expenditure of Prop. 51 dollars once measures were taken “to ensure that taxpayers’ dollars are spent appropriately.” The budget agreement includes trailer bill language (AB 99), proposed by the Governor, which requires audits of financial reports that school districts will be required to submit for school facilities projects that began after April 1, 2017.

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Budget Agreement Increases Funding for California Community College Operations and Other Purposes

A portion of Proposition 98 funding supports California’s community colleges (CCCs), which help prepare approximately 2.4 million full-time students to transfer to four-year institutions as well as obtain training and skills for immediate employment. The 2017-18 budget agreement increases funding for CCC operating expenses and general-purpose apportionments. Specifically, the budget:

  • Boosts funding for CCC operating expenses by $183.6 million, $23.6 million above the May Revision. The budget agreement provides funding for the CCCs to pay for increased expenses in areas such as employee benefits, facilities, and professional development.
  • Maintains cost-of-living adjustment (COLA) for apportionments. Consistent with the May Revision, the budget agreement provides $97.6 million to fund a 1.56 percent COLA for apportionments, up from 1.48 percent as proposed in the Governor’s January budget.
  • Provides $76.9 million in one-time funding for deferred maintenance and other CCC expenses. The budget agreement provides funding for CCCs to pay for facilities and other items including deferred maintenance, instructional equipment, and certain water conservation projects.
  • Increases enrollment growth funding. The budget agreement maintains the May Revision proposal to provide $57.8 million in 2017-18 to fund a projected 1 percent increase in enrollment growth. The budget agreement also reduces funding by $33 million to reflect unused dollars allocated for 2015-16 enrollment growth.
  • Increases financial aid funding for CCC students by $50 million. The budget agreement provides $25 million for a newly established Community College Completion Grant Program and an additional $25 million for the Full-Time Student Success Grant program. Completion grants of up to $2,000 will be awarded to students who fulfill a set of requirements, including having received a Full-Time Student Success Grant and maintaining at least a 2.0 grade point average.

Consistent with the May Revision, the budget agreement provides CCCs with $150 million in one-time funding for grants to develop and implement the Guided Pathways Grant Program, an institution-wide approach to supporting student success.

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Budget Agreement Increases Higher Education Funding and Requires Increased Transparency From the UC

The 2017-18 budget agreement increases funding for the California State University (CSU) and University of California (UC), but makes a piece of funding for the UC contingent on certain requirements. Specifically, the new spending plan:

  • Increases funding for the CSU by $182.2 million. In addition to the $162.2 million in increased ongoing funding included in the Governor’s January budget proposal, the enacted budget includes $20 million to support an additional 2,487 full-time California resident students compared to the 2016-17 academic year. The budget agreement also provides $20 million in one-time funding to support several CSU programs: $12.5 million for the Graduation Initiative, $3 million for the San Bernardino Palm Desert Campus, $2.5 million to support “hunger free” campuses, and $2 million for equal employment opportunity programs.
  • Increases funding for the UC by $136.5 million, but conditions more than one-third of this boost on the University demonstrating effort to satisfy several expectations. In addition to $131.2 million in increased funding in the Governor’s January budget proposal, the spending plan includes $5 million to support an additional 500 graduate students in 2017-18 compared to the 2016-17 academic year. However, the budget agreement withholds $50 million of this funding, which will be released only if the UC demonstrates — by May 1, 2018 — that it has made a good faith effort to implement: 1) recommendations made by the State Auditor, who identified a number of concerns with UC budgeting practices, 2) a more transparent budgeting process, and 3) a transfer policy at all of its campuses, except for UC-San Francisco and UC-Merced, which aims to ensure that at least one out of every two entering freshman is a transfer student beginning in the 2018-19 academic year.

The budget agreement increases funding for the California Student Aid Commission (CSAC). This includes shifting an additional $117.7 million in federal Temporary Assistance for Needy Families (TANF) funds to support Cal Grants, which offsets General Fund costs for Cal Grants by the same amount. In addition, the budget package:

  • Provides $96 million to maintain the Middle Class Scholarship Program (MCSP). The Governor proposed to phase out the MCSP in both his January budget proposal and the May Revision. The budget package rejects the Governor’s proposal, but reduces funding for the MCSP by $21 million.
  • Provides $48.9 million for the CSAC to pay for higher Cal Grant costs due to recently adopted tuition increases at the CSU and the UC. The budget package boosts funding to cover increased Cal Grant costs — $28 million for CSU students and $20.9 million for UC students.
  • Provides an additional $8 million to maintain Cal Grant funding for new students attending private institutions accredited by the Western Association of Schools and Colleges. The budget agreement maintains the maximum $9,084 Cal Grant award for new students at private nonprofit and for-profit accredited institutions.

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Budget Package Uses $546 Million in Proposition 56 Tobacco Tax Revenues to Boost Medi-Cal Provider Rates

The 2017-18 state budget package resolves a months-long disagreement between the Governor and legislators over how to spend new Prop. 56 tobacco-tax revenues that go to Medi-Cal, which provides health coverage for more than 13 million Californians. Approved by voters last November, Prop. 56 raised the state’s excise tax on cigarettes by $2 per pack and triggered an equivalent increase in the state excise tax on other tobacco products. These increases, which took effect on April 1, will generate nearly $1.3 billion in new funding for Medi-Cal in 2017-18, according to state projections.

The Prop. 56 compromise, which is contained in Assembly Bill 120, includes the following elements:

  • Of the $1.3 billion in Prop. 56 funds that are projected to flow to Medi-Cal in 2017-18, up to $546 million could go to doctors, dentists, and certain other Medi-Cal providers as “supplemental payments.” These payments will be divided among five groups of providers: Up to $325 million for physicians; up to $140 million for dentists; up to $50 million for women’s health providers; up to $27 million for providers serving people with developmental disabilities; and up to $4 million for providers caring for people with HIV/AIDS. This use of Prop. 56 funds — which state lawmakers promoted, but the Governor initially resisted — reflects the measure’s requirement that the tobacco tax dollars directed to Medi-Cal be used “to increase funding for the existing [program]…by providing improved payments for all healthcare, treatment, and services.” According to Prop. 56, these “improved payments” must be allocated based on criteria that include 1) ensuring timely access to care, 2) bolstering the quality of care, and 3) addressing provider shortages in various parts of the state.
  • The state Department of Health Care Services (DHCS) will determine the rules for allocating these supplemental payments. These rules must be posted on the DHCS website by July 31, 2017. AB 120 does not require DHCS to solicit public input in developing these rules. However, it seems likely that the Department will reach out to key stakeholders in order to help ensure that the supplemental payments are structured in a way that will achieve the goals established by Prop. 56.
  • Prop. 56-funded supplemental payments will be disbursed only if:
    • California receives “all necessary federal approvals” in order to ensure that federal Medicaid matching funds will be available to the state. Supplemental payments will be independently allocated by provider type as federal approval is received for that category of providers. At a Senate Budget and Fiscal Review Committee hearing on June 13, Senator Holly Mitchell — the committee chair — indicated that the intent is to provide supplemental payments retroactive to July 1, 2017, even if federal approval were received much later in the fiscal year. If the Trump Administration does not approve the state’s proposed supplemental payments, then the Prop. 56 revenues that would have funded these payments would have to be used for other purposes in Medi-Cal, although AB 120 does not provide specifics on this point.
    • The federal government does not cut funding for Medi-Cal. Supplemental payments will not go into effect (or will be suspended) if federal support for Medi-Cal is reduced below the level projected in the state budget. (The Governor’s Department of Finance will make this determination.) While President Trump and Republicans in Congress are attempting to make deep cuts to Medicaid, it’s unclear whether any such reductions will be approved and, if they are, how soon they would take effect. If federal Medicaid cuts do take effect in the coming fiscal year, then any Prop. 56 revenues that would have funded supplemental payments would have to be used for other purposes in Medi-Cal, although AB 120 does not provide specifics on this point.
  • If California allocates the full $546 million in Prop. 56-funded supplemental payments in 2017-18, the state would receive a projected $613 million in federal Medicaid matching funds. With these federal funds, a total of up to $1.2 billion in supplemental payments would be available to Medi-Cal providers in 2017-18.
  • The remaining Prop. 56 funds that flow to Medi-Cal will be used to pay for ordinary spending growth in the program. For example, if the state allocates the full $546 million in supplemental payments in 2017-18, the remaining $711 million in Prop. 56 revenues for that year will go toward routine year-over-year cost increases in Medi-Cal, costs that typically would be paid for with state General Fund dollars. This part of the compromise reflects the Governor’s interpretation of Prop. 56 — one that is at odds with how many state lawmakers and Medi-Cal providers interpret the measure.
  • The compromise sets an expectation that the Governor could disburse up to $800 million in Prop. 56 funds as supplemental payments to Medi-Cal providers in 2018-19, which begins on July 1, 2018. However, the amount of supplemental payments provided in 2018-19 will ultimately be determined based on negotiations between the Governor and legislative leaders as part of the typical state budget deliberations in 2018.

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Budget Package Restores Full Dental Services in 2018, Vision Services in 2020, for Adults Enrolled in Medi-Cal

In order to help close a substantial budget gap in 2009, state policymakers eliminated several Medi-Cal benefits for adults that are optional under federal law. (Medi-Cal is California’s Medicaid program.) These cuts included optional dental services as well as optometric and optician services. The 2013-14 state budget package restored some optional dental services for adults effective May 1, 2014. These restored services included fluoride treatments, certain crowns, and full dentures, but excluded certain other dental services, such as implants. The 2017-18 budget agreement (Senate Bill 97):

  • Restores, as soon as January 1, 2018, the full array of dental services for adults in Medi-Cal. This change is estimated to increase General Fund spending by $34.7 million in 2017-18, with estimated full-year costs of $72.9 million beginning in 2018-19. Implementation is contingent on federal approval.
  • Restores, as soon as January 1, 2020, optometric and optician services as a Medi-Cal benefit for adults. Implementation is contingent on federal approval as well as on funding being provided in the state budget.

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Budget Package Shifts In-Home Supportive Services (IHSS) Costs to Counties, but Reduces the Impact

Under the Coordinated Care Initiative (CCI), California integrates health care and other services — including IHSS — for certain seniors and people with disabilities. In January, the Administration indicated that because the CCI is not cost-effective, it will be discontinued in 2017-18, pursuant to current law. Because of how the CCI is structured, one key outcome of discontinuing this initiative is that counties’ share of the nonfederal costs for IHSS will go up substantially beginning in July 2017, while the state’s share of the costs will drop. (IHSS costs are funded with federal, state, and county dollars.) This past spring, the Administration worked with counties to develop a multifaceted plan to mitigate the impact of this roughly $600 million cost-shift on county budgets. As enacted in Senate Bill 90, this plan includes the following elements:

  • Maintains a “maintenance-of-effort” (MOE) structure for sharing nonfederal IHSS costs between the state and counties. This county MOE structure was implemented in 2012 as part of the CCI. The state General Fund will continue to pay the difference between counties’ MOE contribution each year and the total nonfederal share of IHSS costs in each county.
  • Calculates a new MOE base for county IHSS costs in 2017-18 and applies an annual inflation factor to that base beginning in 2018-19. The MOE base will include the cost of IHSS services along with a limited amount of costs related to IHSS administration. The inflation factor is set at 5 percent for 2018-19 and will rise to 7 percent in 2019-20 and each year thereafter. However, the inflation factor could be lower in any given year depending on the performance of sales and use tax revenues that counties receive as part of their “1991 realignment” funding.
  • Provides counties with General Fund dollars to offset a portion of their increased costs for IHSS. The state will provide counties with $400 million in 2017-18; $330 million in 2018-19; $200 million in 2019-20; and $150 million in 2020-21 and each year thereafter.
  • Redirects, for five years, certain 1991 realignment “growth” funds in order to offset a portion of counties’ increased costs for IHSS. For the first three years, SB 90 redirects all Vehicle License Fee growth funds from various 1991 realignment subaccounts, including one that provides funding for mental health services. In the fourth and fifth years, the amount of redirected revenues would be cut in half.
  • Allows counties to avoid repaying revenues that they received in error due to miscalculations by the state Board of Equalization. This amount ranges from $100 million to $300 million, according to the California State Association of Counties (CSAC).
  • Allows counties that are “experiencing significant financial hardship” due to higher IHSS costs to seek a low-interest loan from the state. This loan option would be available through 2019-20. Loans would have to be paid back within three years.

With this mitigation plan in place, counties’ additional costs for IHSS are expected to be relatively manageable in 2017-18 and 2018-19. However, CSAC warns that the potential for a 7 percent jump in counties’ IHSS contribution in 2019-20 “is problematic…and will lead to growing county general fund impacts.” Any remaining county concerns could be addressed relatively soon: SB 90 requires the Governor’s Department of Finance — in developing the 2019-20 budget — to meet with CSAC and other organizations to examine various issues related to the 1991 realignment, including IHSS costs.

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Budget Package Mitigates Cut to Key CalWORKs Funding Source and Calls for Change in Allocation Methodology

The California Work Opportunity and Responsibility to Kids (CalWORKs) Program provides modest cash assistance for 875,000 low-income children while helping parents overcome barriers to employment and find jobs. Counties receive most of their funding to support CalWORKs activities (including employment services, some child care and case management, and eligibility and other administration services) through the “CalWORKs single allocation,” which has historically been budgeted based on projected caseload. Because the CalWORKs caseload is expected to decline next year, the Governor proposed reducing the single allocation by roughly $250 million, about a 13 percent cut relative to the 2016-17 allocation. Counties objected to this cut, citing their limited ability to quickly reduce spending in response to changes in caseload, as well as the need to maintain a baseline level of infrastructure and service capacity in order to be able to respond to future caseload increases. In response to these concerns, the 2017-18 budget agreement reduces the proposed cut to the single allocation with a one-time $108.9 million augmentation, resulting in an overall net reduction to the single allocation of about $140 million compared to the 2016-17 fiscal year. The budget agreement also requires the Administration to work with counties to revise the methodology for developing the single allocation.

The budget agreement does not propose new increases to CalWORKs basic grants or time limits, though this would be necessary to restore cuts made to the program during and after the Great Recession. However, the budget does include some new investments in welfare-to-work services and infrastructure, including financial incentives for participants engaged in education, expansion of substance abuse services to children of CalWORKs participants, and investments in data and evaluation systems.

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Budget Agreement Provides Increased Resources to Address Federal Actions on Immigration and Other Issues

California was home to more than 10.7 million foreign-born residents as of 2015. This includes a significant number of undocumented immigrants and their children, who are often US citizens. Aggressive federal enforcement of immigration laws has been an area of particular tension between the Trump administration and California’s state and local governments, and the 2017-18 budget package adopts three new proposals that aim to address this issue. Specifically, the budget agreement:

  • Prohibits local law enforcement agencies from establishing new contracts or expanding existing contracts with federal authorities to provide space to detain noncitizens facing federal immigration charges. This provision applies to contracts for detaining both noncitizen adults and accompanied or unaccompanied minors.
  • Requires the Attorney General to review conditions and policies in California detention facilities that hold individuals facing federal immigration charges. The budget provides $1 million to support these activities.
  • Dedicates $45 million General Fund to the Department of Social Services to increase the availability of legal services for people seeking help with naturalization, deportation defense, and securing legal immigration status. These funds represent an increase over the $30 million for this purpose previously proposed by the Governor.

The enacted budget also maintains the $6.5 million General Fund and 31 positions in the Department of Justice proposed by the Governor for “new legal workload related to various actions taken at the federal level.” These funds are intended to address federal actions broadly in the areas of public safety, health care, the environment, consumer affairs, and general constitutional issues, including actions that may affect the California Secure Choice Retirement Savings Program.

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Supplemental Payment for State Employee Pensions Included in Budget Package

The budget package includes higher levels of contributions to state-run retirement systems: the California Public Employees’ Retirement System (CalPERS) and the California State Teachers’ Retirement System (CalSTRS). CalPERS and CalSTRS, like many retirement systems, are not funded at levels that will keep up with future benefits, resulting in the state needing to make annual contributions in order to pay down unfunded liabilities. The state’s unfunded liabilities in the two retirement systems have grown recently as a result of lower-than-expected investment returns and changes to the assumptions the systems make about future investment returns. Greater unfunded liabilities from lower investment returns, in turn, mean that state General Fund contributions to the two systems must increase.

The enacted budget includes additional General Fund contributions as a result of CalPERS and CalSTRS reducing the “discount rate” from 7.5 percent to 7.0 percent over the next several years. The discount rate is the assumed future rate of return on investments that is used to estimate the level of contributions from the state and employers.

In addition, the budget includes a supplemental payment to CalPERS of $6 billion, using revenues borrowed from the Surplus Money Investment Fund, a state cash-flow and short-term investments account that is used to pool and invest state funds until they are needed. The purpose of this loan is to help offset increases in state contributions in future years — essentially refinancing a liability to CalPERS. The loan will allow the funds to be invested at CalPERS’ assumed investment return rate (discount rate) of 7 percent, as opposed to the less than 1 percent currently earned by the funds. The Administration estimates that over two decades this will generate an additional $11 billion (after paying for the costs of the loan), helping to reduce state contributions to CalPERS. The General Fund’s share of the repayment of the loan will be covered by funds set aside by Prop. 2 (2014) for repayment of budgetary debt. The rest of the loan repayment will come from a series of state special funds. In other words, the intention is that repaying the loan will not come from money that could otherwise be used to increase spending for other General Fund programs.

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Budget Provides More Than $11 Billion for the California Department of Corrections and Rehabilitation

The California Department of Corrections and Rehabilitation (CDCR) operates the state’s prison and parole systems. Funding for the CDCR supports the cost of housing men and women in state prisons and other correctional facilities, providing health care and rehabilitation services, and supervising people who have been released back to their communities after completing their prison terms. CDCR’s budget also pays for youth correctional operations and services that are provided at the state level.

The 2017-18 budget provides $11.1 billion in General Fund support for CDCR operations. Overall General Fund spending for CDCR, including support for capital outlay, is equal to 8.9 percent of total enacted 2017-18 General Fund expenditures. In a significant change, the CDCR’s budget includes — effective July 1, 2017 — $254.4 million that was previously budgeted through the Department of State Hospitals (DSH). These dollars pay for the operation of 1,156 inpatient mental health treatment beds at three state prisons — beds that are part of the broader system of mental health care that is provided to incarcerated adults. Transferring responsibility for these psychiatric services from the DSH to the CDCR is intended to “streamline processes and improve timelines for inmate referrals for psychiatric inpatient treatment,” according to the Administration’s summary of the budget package.

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Budget Package Highlights Anticipated Reduction in Prison Population Due to Proposition 57

Currently, more than 131,100 people are serving sentences at the state level in the custody of the California Department of Corrections and Rehabilitation (CDCR). Most of these individuals — over 115,100 — are housed in state prisons designed to hold slightly more than 85,000 people. This level of overcrowding is equal to 135.3 percent of the prison system’s “design capacity,” which is below the prison population cap — 137.5 percent of design capacity — established by a federal court order. In addition, California houses approximately 16,000 individuals in facilities that are not subject to the court-ordered population cap, including fire camps, in-state contract beds, out-of-state prisons, and community-based facilities that provide rehabilitative services.

The total number of people incarcerated by the state has declined by roughly one-quarter since peaking at 173,600 in 2007. This substantial reduction resulted largely from a series of policy changes adopted by state policymakers and the voters in the wake of the 2009 federal court order requiring the state to reduce overcrowding in state prisons.

California voters added a new reform last year by approving Prop. 57, which gives state officials new policy tools to address ongoing overcrowding in state prisons. Prop. 57 requires parole consideration hearings for state prisoners who have been convicted of a nonviolent felony and have completed the full term for their primary offense. The measure also gives the CDCR — which is part of the Governor’s administration — broad new authority to award sentencing credits to reduce the amount of time that people spend in prison. Prop. 57 requires the CDCR to adopt regulations implementing both of these provisions. Finally, Prop. 57 requires juvenile court judges to decide whether a youth should be tried in adult court.

Earlier this year, the Administration drafted emergency regulations to implement Prop. 57, which were approved by the Office of Administrative Law in April. Based on these emergency rules (as published):

  • The new parole consideration process for nonviolent offenders was scheduled to take effect on July 1, 2017.
  • New and enhanced sentencing credits for completion of education and rehabilitation programs are scheduled to be implemented on August 1, 2017. (Enhanced sentencing credits for good conduct took effect on May 1.)

The 2017-18 budget package estimates that in 2017-18, Prop. 57 will reduce the number of inmates by 2,675 below the level that was otherwise projected (130,368). This annual drop in the inmate population is projected to grow to about 11,500 in 2020-21. A declining inmate population will allow the CDCR “to remove all inmates from one of two remaining out-of-state facilities in 2017-18, and begin removing inmates from the second facility as early as January 2018,” according to the Administration’s summary of the budget package. The budget agreement assumes that Prop. 57 will result in net state savings of $38.8 million in 2017-18, rising to about $186 million by 2020-21.

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Budget Agreement Reorganizes State Tax Administration and Limits Board of Equalization’s Duties

The California Board of Equalization (BOE) currently operates over 30 tax and fee programs and has a quasi-judicial role in ruling on tax appeals. In addition, an elected five-member board governs the BOE, and BOE board members often view themselves in a quasi-legislative role.

There has been longstanding concern regarding the BOE’s conflicting roles and responsibilities, and a recent audit by the Department of Finance showed recent misuse of BOE resources, board member interference in routine operations, and an inability to report accurate and reliable information to the Legislature or the Administration.

In response, the 2017-18 budget agreement reorganizes the BOE’s roles and responsibilities and in doing so creates two new state entities: the California Department of Tax and Fee Administration (CDTFA) and the Office of Tax Appeals (OTA). Under the reorganization, the BOE will retain the core duties specified in the state Constitution, including equalizing county property tax rates, assessing certain intercounty and business property, assessing taxes on insurers, and assessing and collecting alcohol excise taxes. The CDTFA and the OTA will have responsibility for other BOE operations that are defined by state statute. The CDTFA will have responsibility for administering other BOE tax and fee operations, and the OTA will have responsibility for ruling on tax appeals. The reorganization of state tax administration will be effective on July 1, 2017.

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Budget Agreement Reflects Recently Approved Transportation Funding Package

California’s expansive transportation infrastructure includes 50,000 lane-miles of state and federal highways, 304,000 miles of locally owned roads, Amtrak intercity rail services, and numerous local transit systems, all of which facilitate the movement of people and goods across the state. The state’s largest category of deferred maintenance is for its existing transportation facilities.

The final 2017-18 budget includes an agreement with the Legislature on a 10-year, $54 billion transportation funding package. This includes $2.8 billion for 2017-18.

The funding will be split equally between state and local transportation programs over the next 10 years. Major state-level allocations include:

  • $15 billion for highway repairs.
  • $4 billion in bridge repairs.
  • $3 billion to improve trade corridors.
  • $2.5 billion to reduce congestion on major commute corridors.

Major local-level allocations include:

  • $15 billion for local road repairs.
  • $8 billion for public transit and intercity rail.
  • $2 billion for local “self-help” communities that are making their own investments in transportation improvements.
  • $1 billion for active transportation projects to better link travelers to transit facilities.

The funding package relies on new revenues generated from a series of tax and fee increases:

  • $24.4 billion from a 12-cent increase in the base gas excise tax starting on November 1, 2017.
  • $10.8 billion from a 20-cent increase in the diesel fuel base excise tax and a 5.75-cent increase in the diesel fuel sales tax starting on November 1, 2017.
  • $16.3 billion from a new annual transportation improvement fee that will take effect on January 1, 2018. This fee will range from $25 to $175 per vehicle based on the value of the vehicle. (For instance, a vehicle valued at less than $5,000 would incur a fee of $25, while a vehicle valued at $60,000 or more would incur a $175 fee.)
  • $200 million from a new annual fee of $100 on all zero-emission vehicles starting on July 1, 2020.

In addition, the base gas and diesel fuel excise taxes, the new transportation improvement fee, and the new zero emissions vehicle fee will be annually adjusted for inflation starting in 2020-21.

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Budget Makes No New Investments in SSI/SSP or Housing, Leaves Cap-and-Trade Allocation Unresolved

The 2017-18 budget agreement includes no new investments in some services and supports that help Californians who have low incomes. In addition, the current budget package leaves unsettled the issue of how to allocate “cap and trade” revenues in 2017-18. Specifically, the budget package:

  • Does not provide a cost-of-living adjustment (COLA) for SSI/SSP grants. Supplemental Security Income/State Supplementary Payment (SSI/SSP) grants help well over 1 million low-income seniors and people with disabilities to pay for housing, food, and other basic necessities. Grants are funded with both federal (SSI) and state (SSP) dollars. Last year, the state approved a state COLA for the SSP portion of the grant, which took effect in January 2017, but no new state COLA was approved for 2017-18.
  • Does not propose any new funding to address California’s affordable housing crisis. No major new state funds are allocated to support affordable housing in the budget agreement, though multiple proposals to invest in housing are still pending in the Legislature. The budget does include $43.5 million for the Housing and Disability Advocacy Program, which was created as part of the budget package that was signed into law last year, but which was never implemented. This program is intended to help people who are homeless or at risk of homelessness and who have a disability to access appropriate benefits. The $43.5 million in funding provided for 2017-18 is carried forward from the 2016-17 budget.
  • Does not resolve the question of allocating cap-and-trade revenues. California’s cap-and-trade program sets a statewide limit on the emission of greenhouse gases (GHGs) and authorizes the Air Resources Board (ARB) to auction off emission allowances, with proceeds invested in activities that seek to reduce GHG emissions. In January, the Governor proposed allocating cap-and-trade funds contingent on the Legislature confirming — with a two-thirds vote in each house — the ARB’s authority to administer the cap-and-trade program beyond 2020. This legislative action has not yet occurred, though negotiations on this vote continue.

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The 2017-18 state budget package negotiated by Governor Brown and legislative leaders resolves a months-long disagreement over how to spend new Proposition 56 tobacco-tax revenues that go to Medi-Cal, which provides health coverage for more than 13 million Californians. Approved by voters last November, Prop. 56 raised the state’s excise tax on cigarettes by $2 per pack and triggered an equivalent increase in the state excise tax on other tobacco products. These increases, which took effect on April 1, will generate nearly $1.3 billion in new funding for Medi-Cal in 2017-18, according to state projections.

At the moment, the Prop. 56 compromise is included in two bills: Assembly Bill 120 and Senate Bill 105. The Legislature will approve — likely later today — one of these bills as part of the state’s overall spending plan for the 2017-18 fiscal year, which begins on July 1. The Prop. 56 compromise includes the following elements:

  • Of the $1.3 billion in Prop. 56 revenues that are projected to flow to Medi-Cal in 2017-18, up to $546 million could go to doctors, dentists, and certain other Medi-Cal providers as “supplemental payments.” These payments would be divided among five groups of providers: up to $325 million for physicians; up to $140 million for dentists; up to $50 million for women’s health providers; up to $27 million for providers serving people with developmental disabilities; and up to $4 million for providers caring for people with HIV/AIDS. This use of Prop. 56 revenues — which lawmakers promoted, but the Governor initially resisted — reflects the measure’s requirement that the tobacco-tax dollars directed to Medi-Cal be used “to increase funding for the existing [program]…by providing improved payments for all healthcare, treatment, and services.”
  • The state Department of Health Care Services (DHCS) will determine the rules for allocating these supplemental payments. These rules must be posted on the DHCS website by July 31, 2017. The legislation does not require DHCS to solicit public input in developing the rules, although it seems likely that the Department will reach out to key stakeholders for feedback.
  • Prop. 56-funded supplemental payments will be disbursed only if:
  • California receives “all necessary federal approvals” in order to ensure that federal Medicaid matching funds will be available to the state. Supplemental payments would be independently allocated by provider type as federal approval is received for that category of providers. At a Senate Budget and Fiscal Review Committee hearing on June 13, Senator Holly Mitchell — the committee chair — indicated that the intent is to provide supplemental payments retroactive to July 1, 2017, even if federal approval were received much later in the fiscal year.
  • The federal government does not cut funding for Medi-Cal. Supplemental payments would not go into effect (or would be suspended) if the federal government reduces support for Medi-Cal below the level projected in the state budget. (The Governor’s Department of Finance would make this determination.) While President Trump and Republicans in Congress are attempting to make deep cuts to Medicaid, it’s unclear whether those cuts will be approved and, if they are, how soon they would take effect.

What comes next? On the state front, once the Prop. 56 compromise is signed into law, attention will turn to DHCS as it moves swiftly to develop the rules that will apply to supplemental payments. Medi-Cal provider payment increases that are funded with Prop. 56 dollars must be based — according to the measure — on criteria that include 1) ensuring timely access to care, 2) bolstering the quality of care, and 3) addressing provider shortages in various parts of the state. By seeking input from key stakeholders, DHCS can help to ensure that supplemental payments are structured in a way that will actually achieve these important goals, thereby improving Medi-Cal for the millions of children, seniors, people with disabilities, and other Californians who rely on it.

At the same time, however, anyone who cares about the future of Medi-Cal, and health care in our state in general, will be keeping an eye on federal deliberations and the actions of California’s congressional delegation. If President Trump and Republicans in Congress succeed in scaling back federal support for Medicaid, California would lose billions of dollars that fund Medi-Cal each year. This massive cost-shift would force state policymakers to make difficult choices regarding Medi-Cal coverage and benefits — and would almost certainly undo any progress on provider payments afforded by Prop. 56 revenues.

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