Think California Depends Too Heavily on the Rich for Income Taxes? Think Again

[courtesy of California Progress Report]

By Mark Paul
Senior Scholar
New America Foundation

Like generals who are always fighting the last war, California's pundits are still fighting their way out of the last budget crisis. Latest case in point: George Skelton of the Los Angeles Times, who recently complained again that California's income tax "depends too heavily on the wealthy." In Skelton's world, the wealthy are just like those men mothers always warn their daughters about: they'll show you a good time, and then disappear, leaving you heartbroken. "Their incomes rise and fall steeply with the economy," he writes, "and therefore so do state budget deficits."

Except that's not why California has a budget crisis. As the state controller reported on May 9, personal income tax collections for the first nine months of the current budget year are $1.4 billion over the estimate in Gov. Schwarzenegger's January budget and within a whisker of the amount budgeted last summer. Through the first nine months California revenues are up 1.2 percent over a year ago, thanks entirely to the income tax, which has more than made up for the decline in sales tax revenues caused by the housing crash.

The pundits' obsession with the volatility of income tax revenues is a holdover from the past. In 1999 and 2000 the incomes--and income tax payments--of the wealthy, powered by huge capital gains and stock option grants during the Internet stock market bubble, soared. Then they fell back to earth in 2001 and 2002, dragging California into a budget crisis. But as I've explained in more detail elsewhere, the bubble and its subsequent popping were an unprecedented event. Just look at the chart below, showing California's four largest sources of general fund tax revenue over the last three decades.

Take out the bubble years, and revenues don't resemble a "roller coaster," as Skelton puts it. They rise when the economy grows and flatten out when it shrinks, as it did in the sharp recession and restructuring that hit California in the early 1990s. Charts of federal revenue, also dependent on income taxes, show the same pattern. The Internet boom was an anomaly.

But let's suppose for a moment that it wasn't. What would the pundits do so that California no longer "depends too heavily on the wealthy"?

Raise taxes on the poor and middle class? According to an analysis done for the California Budget Project by the Institute on Taxation and Economic Policy, low- and middle-income households already pay a higher percentage of their incomes in state and local taxes than do those in the top 1 percent.