Legislative Analyst's Office
February 1995

Perspectives on State Revenues

California state government revenues are generally divided into two broad categories: General Fund revenues and special fund revenues. General Fund revenues are used to support a wide variety of different types of expenditures, which compete with each other for funding amounts. In contrast, special fund revenues are usually earmarked for relatively specific purposes. Examples of special fund revenues include the portion of funds from cigarette and tobacco products taxes that are used to support certain health-related programs. Other examples are hunting and fishing permit fees, which are allocated to support outdoor recreation programs. However, by far the largest single category of special fund revenues involves motor vehicles and transportation.

Revenues Projected in the Budget. Figure 1 (see next page) provides a broad overview of the major revenue sources that support General Fund and special fund expenditures, as outlined in the 1995-96 Governor's Budget. It shows that total state revenues in 1995-96 are projected in the budget to total $57.6billion. This includes General Fund revenues of $42.5billion and special fund revenues of $15.1billion. These figures reflect several major initiatives by the Governor, including a realignment proposal and a tax proposal.

General Fund Share To Decline. General Fund revenues are expected to support nearly three-fourths of the proposed $56.6billion total 1995-96 state spending plan. This is a slight decline from the share that General Fund revenues represented in both 1993-94 and 1994-95.

This shift toward special funds is a continuation of past trends, which reflect both differences in the rates at which General Fund and special fund revenues have been growing, and more importantly, past and proposed shifts of revenues from the General Fund to special fund accounts. Figure 2 shows that while total state revenues (excluding transfers) have been relatively flat in recent years, they have averaged about 6.6percent growth over the last 12 years. However, the growth rate for special fund revenues has averaged over 11percent, compared to 5.5percent for General Fund revenues. --

Overview of the General Fund Revenue Forecast

Figure 3 shows that the bulk of General Fund revenues are raised from three sources. The largest of these is the personal income tax (PIT), which is proposed to generate 46percent of General Fund revenues in 1995-96. The sales and use tax is the next largest source, accounting for 35percent, while the bank and corporation tax (B&C) share is about 11percent. Thus, these three largest taxes are projected to account for 92percent of 1995-96 General Fund revenues.

Figure 4 (see page 46) summarizes the budget's forecasts for 1995-96 General Fund revenues by major source, along with actual 1993-94 and estimated 1994-95 revenues. -------- a Amounts for 1995-96 reflect Governor's tax and realignment proposals.

Little Revenue Growth Projected

The budget forecast for General Fund revenues shows basically no growth -- an increase of only $185million, or 0.4percent, from 1994-95. The increase in tax revenues is 1.8percent. Revenue growth is predicted to vary considerably by source, however. For example, PIT grows moderately (5.4percent), sales and use taxes are basically flat (up 1percent), B&C taxes fall (by 13percent), and insurance taxes surge (by 30 percent).

As discussed below, the low growth in total revenues and disparate growth in individual revenue sources in large part reflects various special factors that distort their underlying rates of revenue growth. These include the Governor's budget proposals involving taxation and realignment, discussed below. --

Modest Growth Adjusted for Major Budget Proposals

Figure 5 shows that, after the revenue effects of the Governor's taxation and realignment proposals are removed, General Fund revenue growth in 1995-96 is greater, but still modest--$1.4billion, or about 3.4percent. -- After also adjusting for variety of other special factors, such as the phasing-in of past law changes, 1995-96 revenue growth turns out to be a bit higher--closer to the range of $2billion, or nearly 5percent.

Growth for Individual Revenue Sources

The revenue growth rates of individual revenue sources generally vary considerably from one another, depending on the economic climate and year involved. One reason is that the pace of economic activity can vary from one year to the next, and individual revenue sources respond differently to these changes. Another is that the basic characteristics of different tax bases and tax rates differ from each other. For example, income taxes and sales taxes are ad valorem taxes, which apply percentage tax rates to dollar tax bases. These tend to fluctuate with the economy, because they capture the effects of both real economic growth and inflation. Certain others, in contrast, rely on per unit taxes, which levy certain dollar taxes per physical unit of the item being taxed. Alcohol, cigarette and fuel taxes are examples. These taxes tend to grow more slowly over time than ad valorem taxes, partly because they do not reflect inflation in their bases.

Figure 6 shows how revenue growth varied during the recession for major sources. Over the past five years, by far the greatest weakness was in bank and corporation taxes, reflecting the sluggish performance of corporate profits during the economic downturn. -- Growth Adjusted for Special Factors. The wide variations in 1995-96 revenue growth for individual sources noted above are considerably less significant when adjustments are made for special factors pertaining to them. For example:

The Governor's Tax and Realignment Proposals

The Tax Proposal. The Governor is proposing a 15percent reduction in both PIT and B&C tax rates. These reductions are to be phased-in over a three-year period beginning with the 1996 income year -- 5percent each in 1996, 1997 and 1998. In conjunction with these rate reductions, the Governor is proposing to continue the 10percent and 11percent high-income PIT rates that were put in place in 1991 and are scheduled to expire after 1995.

The budget projects that the tax proposal will reduce 1995-96 revenues by $225million, including $105million for PIT and $120million for B&C. From 1995-96 through 1998-99, the budget projects the proposal will reduce revenues by a cumulative total of $7.6billion, including $3.6billion in 1998-99 when it would be fully phased in. A recent analysis by the Franchise Tax Board (FTB) estimates the cumulative four-year revenue reduction at $7.1billion.

The Realignment Proposal. As it relates to revenues, the realignment proposal has two parts. First, it would shift .2215cents of the state sales tax to localities. In 1995-96, this would amount to $710 million. Second, the proposal would return trial court fines and forfeiture revenues to localities. In 1995-96, this would amount to $311million. Thus, the realignment proposal would reduce General Fund revenues by about $1billion in 1995-96, and increasing amounts thereafter.

Taken together, the Governor's tax and realignment proposals would reduce 1995-96 General Fund revenues by $1.2billion. These proposals are both discussed in greater detail in Part Five of this volume.

Individual General Fund Revenue Forecasts

Below we discuss the budget forecasts for the state's individual taxes, including some general background information on each tax and the assumptions on which the budget projections are based. The overall reasonableness of the forecast and how it compares with our forecast is discussed at the end of the section.


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