Bigger Sales Tax Hike May Follow

Gov. Gray Davis, who last week proposed a one-cent sales tax hike, is contemplating another increase next year to make up for what analysts believe will be a drop in revenue from higher income taxes on wealthy Californians, according to a state Department of Finance memo.

The proposal for a sales tax increase would cost California consumers a collective $4.5 billion annually in an effort to close a projected shortfall in next year’s state budget. But a Department of Finance memo sent to legislative budget writers shows that, starting next year, the increase could rise to 1.125 cents, costing consumers an extra $900 million a year. The memo was not disclosed during the budget unveiling last week.

Davis is proposing a tax hike package of more than $8 billion as part of his plan to shift an array of health programs to local government. The state would help local government pay for the programs by earmarking the added sales tax revenue to counties, along with taxes on cigarettes and high incomes.

The extra income tax is expected to raise $2.5 billion this year. But experts with the state Department of Finance estimate that, for a variety of complex reasons, the take from the income tax hike would fall to $1.8 billion in 2004. They characterized their estimate as conservative. As a result, they propose a hike after the first year to make up for the expected drop in revenue.

The memo outlining the governor’s tax initiatives says the sales tax rate would need to rise by 1.125 cents “in 2004-05 and beyond ... in order to provide sufficient revenue to local governments, because the revenue from the higher income tax rates declines substantially in 2004-2005.”

The memo, prepared by the department’s finance and economic research unit, is addressed to legislative budget staff members and was distributed Friday.

Outgoing department Director Timothy Gage said that, although he had not seen the memo, the possibility of raising the sales tax more is “one of the possible approaches” being considered by the Davis administration. “We need to have a conversation about what is going to yield the $8.2 billion,” Gage said.

California’s sales tax rate now ranges from 7.25% in some rural counties to 8.5% in Los Angeles and 8.75% in San Francisco. Under the Davis proposal unveiled last week, the sales tax in Los Angeles County would rise to 9.5% in July. With the extra increase contemplated in the memo, the rate would rise to 9.625% in 2004.

The Finance Department also anticipates that the cigarette tax would result in an 11% drop in smoking. As a result, cigarette tax revenue would fall from $1.17 billion in the 2003-04 fiscal year to $1.07 billion in 2004-05.

State law requires that any tax hike be approved by two-thirds of both houses of the Legislature. Davis’ tax proposals face opposition from some Democrats and most, if not all, Republicans in the Legislature, and from an array of business lobbyists.

Voicing opposition to all three proposed tax hikes, Senate Budget Committee member Dick Ackerman (R-Irvine) on Monday pointed to the extra sales tax contemplated for 2004, and charged that Davis is failing to “properly advertise” his tax package.

“He is misleading the public,” Ackerman said. “He is misleading the Legislature, which is not a good thing to do. I had assumed it was 1%.”

Democrats are particularly skeptical of the sales tax hike, believing it would fall hardest on people with the least income.

“There ought to be other places to go look for revenue,” said Sen. Gil Cedillo (D-Los Angeles), the chairman of the Senate Revenue and Taxation Committee. “The sales tax is not the most equitable. In many ways, it is the more regressive of the taxes.”

Davis has said that he patterned his tax package after one pushed by his Republican predecessor, Gov. Pete Wilson. Wilson agreed to raise sales taxes and to increase income taxes on the wealthiest Californians during the recession in the early 1990s as he struggled to close what he then described as a $14-billion budget gap.

But Wilson abolished the extra income tax, once the financial crisis eased, and Davis’ Department of Finance noted that both the higher income tax rates and the sales tax increase would be permanent.