Could taxing multinational corporations erase California’s budget deficit? It doesn’t happen
The state’s chronic budget gap between income and spending — $125 billion over the past few years, according to the Legislature’s financial adviser — has left Gov. Gavin Newsom and lawmakers are looking for ways to clean up the state’s finances.
Newsom has so far avoided new taxes to close the loophole, and has tried to sidestep the multibillion-dollar estate tax that could come up in the November election. Union advocates say it would generate about $25 billion a year for four years, about the size of California’s projected deficit, with the proceeds going mostly to health care.
While Newsom may not want to raise taxes as he prepares for the presidential campaign, his fellow Democrats in the Legislature and a number of interest groups increasingly see tax increases as the only way out of the twin problems of the budget deficit and recent cuts in federal aid.
Therefore, the hunt is on for some kind of tax that could be politically successful, especially if the wealth tax is disrupted. The search extended to California’s system of taxing multinational corporations.
For decades, California levied those taxes on what was called a “unitary basis”. Companies had to report their worldwide income and a formula determined what percentage would be taxed by California.
The plan was highly contested and bitterly opposed by companies based in other countries, especially those based in Japan and Great Britain. Their governments have pressured California, directly and through social media, to end the program.
Finally, in 1986, the Republican Government George Deukmejian and the Democratic Alliance legislators threw in the towel and decided that the companies could continue in one way or make calculations that were called “water’s edge”, which counted only the jobs inside the United States.
Since then, critics have argued that the offshore option is a boon for companies, because they can use creative accounting to shift profits to subsidiaries in other countries and thus reduce their California tax liabilities.
That criticism is renewed by advocates of returning only to one system.
Assemblyman Damon Connolly, a San Rafael Democrat, introduced a joint tax bill. On Wednesday, the tax committees of both houses of the legislature held a hearing to get input from advocates and opponents.
Advocates, such as UC-Davis law professor Darien Shanske, argue that companies should benefit from recent federal tax changes, and California should use their profits to support essential state services that are threatened with cuts.
Opponents, such as Jared Walczak of the California Tax Foundation, have warned that returning to a single system would make tax compliance more difficult and could revive international opposition.
The contention of federal lawyers that the water election is a loophole that has undermined corporate tax revenue is faltering. California has the third highest state corporate tax rate, 8.4%, and since the option was adopted 40 years ago, corporate tax revenue has increased 9-fold from $4.8 billion annually to $43.5 billion, slightly less than the rate of personal income tax growth.
It is also doubtful that a single tax would do much damage to the government’s chronic budget deficit, let alone replace austerity. Two tax experts for the federal agency told lawmakers that measuring income gains is nearly impossible. The left-leaning California Budget & Policy Center estimates it could get an additional $3 billion a year, while Shanske suggests $4 billion.
The federal deficit has been running about $20 billion a year, and projections of future deficits are at the same level. To really close the gap would require a permanent increase in the size of the proposed wealth tax — and replacing it with federal cuts would require more.
Another reminder that making promises without revenue to support yourself is a foolish way of public finance.
Dan Walters is a writer for CalMatters.
