California projections are below budget forecast for second month

The California Department of Finance's monthly cash report presented a good news-bad news scenario with revenues off projections for the second month in a row, but unemployment in the state reached its lowest level since the mid-1970s.

For July, the first month of the new fiscal year, general fund revenues came in $1.3 billion below what was forecast in the budget approved July 1, according to the August report. This comes after June revenues were $2.3 billion below projections in the DOF's July financial bulletin.

H.D. Palmer, a DOF spokesman, said, "some of the drop-off in withholding in the past two months may be associated with some of the recent layoffs reported in the high-wage, high-tech sector."

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Overall, the employment picture is resilient, according to Palmer: 84,000 non-farm jobs were created in July, after adding a revised 37,300 in June; and the state posted a 3.9% unemployment rate in July — 0.2% below its pre-pandemic level, — the lowest since the state began collecting such data in 1976.

"That said, as we know, slight changes in income for high-earners can have an outsized effect on revenues, up or down," Palmer said. "Based on what we've seen to date regarding those aforementioned job reductions, it's likely being reflected in the recent withholding totals."

The state's three largest sources of revenue are personal income taxes, sales and use taxes and corporate taxes.

For June, personal income taxes were 19.7% lower than the budget forecast at $13.6 billion, sales and use taxes were 2.8% lower, $99 million below projections and corporate taxes were 1.4% lower than anticipated, $146 million below projections.

July revenues were 13.5% lower than expected hitting $1.05 billion, while corporate taxes were 1.6% lower at $807 million and sales and use taxes were 6% lower than expected at $1.4 billion.

Personal income taxes are the state's biggest revenue generator. Rating agencies have often commented in reports on how dependent the state is on capital gains and therefore personal income taxes from its wealthier residents.

All of the rating agencies have said the state's revenue volatility, because of the progressive income tax structure, and its dependence on high-net worth individuals, and thus the stock market, keeps it from having higher ratings.

In a recent report, S&P analysts noted that 62% of budgeted state general fund revenue comes from personal income tax, and about half of PIT is derived from the top 1% of state taxpayers, including their high proportion of income from capital gains.

The California Legislative Analyst's Office released a report estimating a 70% chance that fiscal 2022-23 general fund revenues could come in under budget.

"At the time of the May outlook, we cautioned that economic indicators were suggesting a slowdown could be on the horizon," Brian Uhler, deputy legislative analyst, wrote in the report published August 1. "More recent economic data has continued to point in this direction."

He noted, however, much of the fiscal year "lies ahead of us and there remains significant uncertainty about how much the state ultimately will collect — and the implications of unanticipated changes in revenues for the state's budget are not straightforward."