California’s Love of Taxes is Backfiring

Supporters of a proposed wealth tax might want to look at the dire and unintended consequences of Los Angeles’ mansion tax.

SACRAMENTO, Calif. — National news stories have recently discussed Crazy California’s effort to impose an “emergency” wealth tax of 5 percent on the net worth of billionaires. It’s an asinine idea that could signal the end of the state’s leadership role in wealth-generating tech industries. The emergency is the state’s ongoing fiscal problems, but those aren’t caused by a lack of taxation, as California has among the highest tax burdens in the nation. It’s the result of the state government’s continuing failure to operate efficiently.

California has 199 billionaires, which is far more than any other state. Proponents of the tax — namely a labor union (Service Employees International Union-United Healthcare Workers West) with a lousy track record at the ballot box — argue that the tax would raise $20 billion a year over five years. They plan to spend the money mostly on healthcare and some other social services.

Only a small number of billionaires have fled the state before the January deadline, but if it passes, its opponents would have a number of legitimate legal angles for challenging its legitimacy — including this retroactive aspect of it. It would be a one-time tax, but it would of course send a signal to billionaires and aspiring ones that California is no place for them to do business.

As the nonpartisan Legislative Analyst’s Office explained, the level of new revenue is difficult to predict because “it is hard to know what actions billionaires would take to reduce the amount of tax they pay. Also, much of the wealth is based on stock prices, which are always changing.” The LAO notes that billionaires’ responses could significantly decrease the state’s income taxes, thus mitigating a large portion of the new proceeds.

Economist Henry Hazlitt was known for discussing the seen and unseen consequences of economic decisions. For instance, we will all see the new revenues that would flow into the state from the Billionaire Tax Act, but we wouldn’t see the investments and new businesses that never came about because of the tax. The Los Angeles Times reported on a California crypto startup that moved to South Dakota in December to avoid the possible tax. Other startups will take note and bypass the Golden State despite our lovely weather and beaches.

A couple of caveats: First, some commentators blame the state’s usually misbegotten Democratic leadership, but Gov. Gavin Newsom is strongly opposed to it. “It’s a badly drafted effort and it’s already had an outsized impact on this state,” he said recently. State leaders note that California’s steeply progressive income tax system depends heavily on the highest 1 percent of owners, so even if a few of them leave, it could increase the state’s efforts to balance its budget, as KCRA notes.

Second, some observers are assuming that the tax is a fait accompli given our wonky politics here, but in reality it’s rather iffy that it will pass. Given the huge stakes involved, I don’t blame the state’s wealthiest residents for doing whatever it takes to mitigate the risk, but the measure is out for signature gathering. It hasn’t qualified for the ballot yet. Initial polling shows support levels below 50 percent, which is typically the kiss of death at the initial ballot stage. Furthermore, California voters generally vote in a far more conservative manner on ballot measures than on their choices for elected officials. They repeatedly reject major tax hikes and rent control, for instance.

Still, it’s problematic that powerful groups such as labor unions consistently push proposals that pose an existential threat to successful businesses and taxpayers. It’s infuriating that they rarely grapple with the unintended — but easily predictable — results of such proposals. And they do sometimes pass. Another good example of these “eat the rich” measures is Los Angeles’ Measure ULA from 2022. It imposes a transfer tax of 4 percent to 5.5 percent on the sale of “mansions” in the city.

Instead of providing a windfall to fund homeless programs, the tax has squelched the sale of properties that cost more than $5 million. The tax doesn’t only apply to single-family mansions, but also applies to hotels, commercial buildings, shopping centers, and apartments. It’s paid by sellers based on the sales price rather than the profits. Recent news stories highlight the $258,000 ULA tax that Los Angeles Dodgers star Freddie Freeman paid on a house he sold for a major loss. That’s because Freeman did what few others are doing: he sold it.

A recent commentary by Jason Ward of RAND, housing expert Shane Philips, and UCLA professor Michael Manville explained, “The easiest way to avoid the tax is to not sell, and our research shows that over the first two years since ULA was implemented, high-value property sales in the city fell by about 50% — a far steeper decline than elsewhere in the county during the same period.” Collections have averaged “less than half the lowest projections.”

The tax also “has slowed the production of market-rate apartments” at a time when Los Angeles desperately needs new housing, they wrote. “Even though demand for housing in the region is red hot, many people who build apartments for a living have paused putting shovels in the ground [in Los Angeles] because, they say, it’s just too hard to turn a profit,” per an October news story in the Los Angeles Times. The tax is a key reason.

The above-mentioned research also found that, per an analysis by California YIMBY (Yes In My Back Yard), “The resulting drop in property tax revenue — fewer transactions means fewer properties getting reassessed under Prop. 13 — has cost schools, the city and county about $25 million yearly.” So these soak the rich policies end up soaking everyone else. Fortunately, there’s an effort to place on the November ballot a measure to cap these transfer fees, roll back LA’s mansion tax, and make it harder for voters to approve them in the future.

Instead of punishing success, California needs to encourage it. Yes, our state remains economically vibrant but it’s despite the state’s policies, not because of them. Until something changes, billionaires and those who hope to be one someday will keep looking for greener pastures.