Deja Vu All Over Again

For the second time in its 60-year history, California’s unemployment insurance fund is insolvent – this time in a big way. 

In 2004, a $214 million loan from the federal government coupled with an improved economy pulled the fund out of the red and allowed benefits to continue to be paid to out-of-work Californians. 

At the time, the Legislative Analyst, as it so often does, warned lawmakers and the governor that more work had to be done or the fund would go bust again. 

“Another recession could easily send the fund back into insolvency,” were the exact words. 

It’s déjà vu all over again. The Employment Development Department predicts the fund will be $2.4 billion in the red by the end of 2009 and another $4.9 billion by the end of 2010. 

Those predictions, made in October, are premised on California’s unemployment rate being 6.6 percent last year, 6.7 percent this year and 6.5 percent in 2010. 

The Legislative Analyst predicts a far higher unemployment rate of 9.5 percent in 2010. Unemployment already hit 9.3 percent in December of last year, which means the actual hole is likely to be significantly higher than the department’s October estimates. 

After the fund balance estimates were issued last fall, a federal loan of $1.84 billion was taken out. It covers benefit payments through March. 

With plummeting revenues creating an estimated $42 billion budget hole, the unemployment insurance fund’s condition creates a double economic whammy. 

 There are only three things that can be done to replenish the fund: increase employer contributions, cut benefits or some combination of both. 

Democrats won’t support reducing benefits. Republicans don’t support tax increases. 

Just like the budget, the unemployment insurance fund is in bad shape because lawmakers and the governor didn’t do what was necessary to fix it, which, in the fund’s case, should have been done five years ago.  

Part of the problem in 2004 was legislation passed in 2001 that increased the maximum weekly benefit from $220 to $450 over a four-year period. 

California’s $450 maximum weekly payment is slightly higher than the $409-per-week national average.

Legislation passed in 2002 retroactively applied the benefit increases approved the previous year, which resulted in nearly  $1 billion in additional pay-outs. 

Although the 2001 bill increased benefits, it did not increase the employer tax rate to cover the added costs. The rationale being that there was a nearly $6 billion surplus in the account at the time. 

The fund has eight contribution rates it imposes on employers.  The lowest is AA, which should be the level employers pay when the fund is flush. When the fund is heading toward insolvency or is already in the hole, the highest schedule, F+, is used which is 6.2 percent. 

However, even in relatively good times, contribution rates have not fallen below C. 

 That’s because employers pay their unemployment tax based on the first $7,000 in wages paid to each worker – a wage ceiling dating back to 1983. The maximum paid is $434 per employee each year. So even when the economy is strong the base is too low to cover demand. 

The legislation increasing the benefits also failed to boost the wage ceiling. In issuing the warning about the effect of a future recession on the fund, the Legislative Analyst stressed those points.  

When he called lawmakers into session last November to deal with the budget, Governor Schwarzenegger offered a plan to restore the fund’s fiscal health. 

He proposes increasing the taxable wage ceiling from $7,000 to $10,500. Forty-two states tax more than the first $7,000. 

The GOP governor would also increase the maximum tax rate from 6.2 percent to 8.1 percent. The higher wage ceiling would generate $2.7 billion. The higher tax rate, another $1.4 billion. 

The governor’s proposal would increase the maximum tax per employee from $434 to $851. The national average is $995.  

To save $300 million, eligibility would be made slightly harder by the governor – a claimant would need to work 7.5 weeks per year rather than the current 3.5. 

Employers aren’t too thrilled at the prospect of having their contributions increase by $4.1 billion in 2010. The California Chamber of Commerce, for instance, says that costs in the fund can be brought down sharply by greater efforts to reduce fraud. Lower costs would presumably lower the increase in employer taxes. 

Legislation has been introduced – ABX3 23 — by two moderate Democratic Assemblymen to help California get up to $840 million in incentive payments from the federal government. The payments are contained in the Unemployment Insurance Modernization Act, which is part of the economic stimulus package pending in the U.S. Senate. 

One third of the incentive money California could receive is lost unless the state creates an “alternative base period” for determining unemployment insurance eligibility. That alternative base would allow some 40 percent of employees currently denied benefits because of insufficient earnings to receive them. 

The Assembly bill would create that “alternative base period,” allowing California to get the federal money. The Assembly bill hasn’t gone anywhere, pending final action on the federal measure. 

Business groups are all for the incentive money since, in the short term, it reduces the increase in their tax obligation. But they don’t like expanding eligibility to more unemployed workers. Democrats, obviously, favor the expansion. 

The Legislative Analyst proposes eliminating the Employment Training Tax employers pay – about $112 million annually – to soften the blow of the increased unemployment tax backed by the governor. 

“During hard economic times, we believe it makes sense to partly offset the negative impact on employers of taking the unavoidable and necessary steps to restore solvency to the (unemployment insurance) fund.

“We also question the premise of the Employment Training Panel program. We believe that private businesses know their training needs better than any state entity could. Letting employers decide how much to spend for the training of their workforce is more efficient than having an appointed board make this decision for them.”

Some observers contend that a closer linkage of this issue with the budget would lead to swifter resolution. Their thinking: Whichever GOP lawmakers provide the necessary votes for the budget could potentially not have to vote for tax increases a second time in separate legislation for the fund.

Sen. Denise Ducheny, a San Diego Democrat, has introduced a placeholder bill that will eventually contain whatever compromise the governor and lawmakers hammer out.

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