Gavin Newsom promised Californians there’d be no new taxes to fix the state’s historic deficit. One new tax is already squeezing the state’s businesses.
Gavin Newsom promised Californians there’d be no new taxes to fix the state’s historic deficit. One new tax is already squeezing the state’s businesses.
C onfronting the nation’s largest-ever state budget deficit, California’s Democratic governor, Gavin Newsom, has been throwing overboard almost every government program not tied to a legal mandate. Despite progressive demands, he’s sounding for once like a fiscal conservative: There’ll be no new taxes.
“When considering [California’s] 8.84 percent corporate tax — which is the highest, arguably, depending on how you analyze it, in the country — no, I’m not prepared to increase taxes,” Newsom told a May 10 press gaggle. “We have among the highest tax rates in the United States of America for high-wage earners, we have among the highest tax rates, as I noted, for corporate taxes. . . . I feel strongly that we have to live within our means.”
But Newsom was already lying. By defaulting on $20 billion in federal Covid-era unemployment-insurance loans, Newsom triggered an automatic hike in federal payroll taxes paid by California employers.
The repayment program, laid out in the Federal Unemployment Tax Act, or FUTA, is squeezing already straitened California businesses. What’s especially painful to business owners is that the payroll tax hike is raining down upon the just and the unjust.
“The increase comes notwithstanding the claims experience of the employer,” says Douglas J. Holmes, president of the National Foundation for Unemployment Compensation and Workers’ Compensation. “Employers who never lay off employees suffer significant percentage increases over their otherwise low rates.”
And then there’s this terror: the tax rise every year that “California fails to repay the federal loan,” Holmes notes — from an additional $21 per employee this year to $42 next year and so on, until the state’s businesses have fully paid for Newsom’s folly.
That’s going to mean tough times for California business owners.
Denise Duncan, who owns AT Industrial, a Pomona-based manufacturer, doesn’t remember when she received her IRS notice that her federal withholding would go up, but she remembers vividly her reaction: “I wanted to throw up. . . . Most people who don’t actually run a business, their attitude about this sort of tax stuff is, ‘It’s just a little bit. What are you worried about?’ But it’s not just this.”
She runs through the outrages, a long train of abuses and usurpations, including government-fee increases (city trash collection recently soared from $88.91 per month to $370), inflation, and regulations eating out her substance.
“Every time we adjust, we get smacked around for something else,” she says. “And now there’s” — she pauses, seeming to search for something she can say in front of small kids and old people — “there’s this.”
Mark Bucher, who owns Service First, a Santa Ana-based property-services company, is clearer about when he got his IRS notification (December 2023) and equally clear on the penalty he’ll pay for Newsom’s blunder ($5,640). When I suggest that some might say that’s not much, he growls: “It’s a lot of money if it’s being stolen from you.”
Bucher ticks off the list of things for which he might have otherwise used that money — “bonuses, salary increases, a new piece of equipment” — but that exercise seems to make him mad at me.
Bucher isn’t mad at me, of course. Each of the eleven California business owners I spoke with is familiar with the FUTA tax. And each of them blames Governor Gavin Newsom. A few of them understand the debacle at such a granular level that they add another name: Newsom’s former secretary of labor, Julie Su.
The Background
Ignoring years of warnings from state auditors that California’s Employment Development Division was uniquely vulnerable to hackers, Julie Su was unprepared for the flood of unemployment claims generated during Covid. Fearing that more rigorous identity checks on unemployment claims would disproportionately harm minorities, Su swung open the door to all claims — and paid out a remarkable $30 billion to fraudsters, prisoners, scammers, and known international organized-crime rings, while at the same time collecting up to $20 billion in emergency unemployment-insurance trust-fund loans from the federal government. That’s when Su’s team slammed the door, freezing out hundreds of thousands of legitimate claimants.
Within months, literal fortune struck for Newsom and his supermajority governing party, including Su: A series of unprecedented Silicon Valley IPOs generated one-time tax revenue so magnificent that few remembered Su’s gaffe. Tax payments from Airbnb, DoorDash, Coinbase, and others lifted Sacramento’s financial ark above the flood of bad news emanating from Su’s department.
Twenty other states paid off their federal loans, and none of them had Newsom’s luck with Silicon Valley. Newsom could have used some of that unprecedented income to pay off the federal loan, too. Instead, facing a recall over his feckless handling of the Covid lockdown, he ignored the PAYMENT DUE notice on that $20 billion from the federal government and did something so remarkable that it ought to end — forever — any talk of a President Gavin Newsom.
First, he rushed to advertise his expertise as a public-finance expert in producing 2022’s $100 billion surplus, the largest in U.S. history. Finding himself on third base because of those Silicon Valley IPOs, Newsom pumped his fists and slapped his own chest as if he’d hit a triple. Then, because he was three months away from the September recall, he spent almost all of it — including a one-time payment to 23 million Californians of up to $1,050 for a total of $9.5 billion.
“He could absolutely have used the surplus to pay off the federal loan,” said a former state auditor who spoke on condition of anonymity. “Instead, he ignored it. I don’t know, maybe he hoped it would become someone else’s problem.”
That “someone else” is anyone who employs Californians.
Eine Kleine Mathmusik
That’s how Newsom escaped responsibility for the federal payroll-tax hike on California employers, an escape also aided by epidemic innumeracy, IRS complexity, and national politics.
Here’s the math and IRS complexity: To fund unemployment payments, American employers pay the IRS 6 percent on the first $7,000 of each employee’s salary. But that 6 percent is always discounted to 5.4 percent (called a “credit” in IRS vernacular), yielding a net rate of 0.6 percent for a total tax of $42 per employee per year.
But if the state in which those employers operate is a deadbeat — if, like California, their state hasn’t repaid the federal dollars it borrowed to backstop spiking unemployment claims — the IRS reduces that credit by 0.3 percent, raising the net FUTA tax on employers from 0.6 percent to 0.9 percent in year one. If the state is still in arrears the next year, employers get hit with another 0.3 percent credit reduction, raising the FUTA tax to 1.2 percent — and so on, the federal bite harder each year.
Newsom has also avoided accountability because of national politics. When Joe Biden entered the White House in 2021, he scanned the landscape like far-seeing Mao in one of those 1960s Chinese propaganda posters and identified for the No. 2 position at the U.S. Department of Labor one of the least likely candidates in the entire republic: Never mind the fraud debacle at the Employment Development Division or her abbreviated work history, Biden picked Julie Su.
It’s easy to see why: Su checked several boxes — she’s a woman in the old-fashioned meaning of the word, the daughter of Chinese immigrants, and was for several years a progressive nonprofit lawyer in California’s class war against business. Shortly after she entered Biden’s Labor Department, her boss, Marty Walsh, departed for the NHL Players Association, and Biden promoted her to acting secretary of labor.
That’s when Su quietly offered to forgive deadbeat states their federal unemployment-insurance loans. It seemed to bother almost no one that there were just two states that might benefit from this act of largesse — California and New York — and that Su was responsible for losses in one of them.
Su’s sleight-of-hand might have gone unnoticed but for sharp-eyed finance experts at the California Policy Center who discovered the evidence buried in a California state financial document published in March. (Disclosure: I’m president of the California Policy Center.) News of Su’s effort to forgive herself — effectively masking her role in the California FUTA disaster — reached Congress in May. As you read this, House and Senate committees are looking for answers.
“Julie Su and Gavin Newsom are responsible for billions in unemployment-insurance fraud and the punishing taxes small-business owners are paying as a result,” says Michelle Steel (R., Calif.), who has grilled Su in House Education and the Workforce Committee hearings. “Even worse, Newsom continues to ignore the problem while Su actively covers up her misdeeds from an ivory tower in Washington. Su has failed to answer basic questions regarding her actions to sweep California’s massive federal debt — and her role in the fiasco — under the rug, and I will continue working on behalf of taxpayers to hold her accountable.”
‘We’re the People’
Statements like Steel’s offer some comfort to the business owners I spoke with. But the entire FUTA experience is clearly demoralizing to many.
“I wouldn’t set up a business in California now,” Bill Proestler tells me while driving on a Sunday and thinking about the impact of the FUTA tax hike on his company. “I’d do it somewhere else. Seems like other states, like Texas . . . Texas is a lot more friendly to business from what I read and hear.”
Some businesses are hard to move. Proestler’s 5 Star Car Wash & Detail Centers has two locations about halfway between San Francisco and Sacramento, with customers he’s cultivated over the years back to 1998.
The FUTA hike hurts. In the car-detailing business model, he explains, the margins are razor-thin, and labor accounts for almost all of his costs.
“So any time you affect the labor cost” — like when Gavin Newsom and Julie Su screw up and you take one in the shorts on the FUTA tax hike — “it drastically affects your bottom line,” he says.
It’s not just a few guys washing and detailing cars at 5 Star. There’s a general manager, office staff, and site managers. There’s equipment maintenance and customer service. As Proestler describes it, the company is a great chain of commercial being, of relationships with vendors and customers and workers. Proestler himself is generally working at one or both locations every single day; he spent last Saturday night in the sexiest way imaginable, repairing two laundry machines that choked at the same time.
“Four hours,” he says of last Saturday night. “I’m not complaining. I love work. But I do mind getting my pocket picked by the state of California.”
Proestler has already responded to his payroll-tax hike by eliminating a few of his 75 positions. He had to “put more work on existing employees — to speed up how they operate. We’re constantly trying to become more efficient just to stay in business. But this” — like Denise Duncan in Pomona, he pauses so long that I think we’ve lost the cell connection — “yeah, this hurts.”
He’s seen some competitors close and others convert to the “express-car-wash model,” “glorified gas stations,” he calls them, those three-minute funhouse carnival rides through an industrial tropical downpour that knocks the filth off your car’s exterior but leaves the interior still smelling of a 14-hour summer drive through Texas with fast food and toddlers. He sees private-equity companies flooding the market with beta-test locations “one on top of the other,” sometimes opening and closing within two months because (he says) you really can’t do at scale what Proestler does and is so obviously proud to do, which is to scrub and vacuum your car’s insides and buff its outsides until the thing gleams (blindingly) and smells (pine, lemon, hospital-hygienic) in ways that justify the personal loyalty of his customers, some of whom make actual appointments and drive in from miles around.
“You just can’t do this at scale,” Proestler says. “It’s a people business.”
The same ought to be said of governing. But in progressive California, businesspeople are, at best, seen as infinitely exploitable producers of state-tax revenue or, at worst, a class enemy to be slowly converted to the visionary needs of the vanguard of the proletariat.
The people being crushed by the FUTA tax hike — people like Duncan, Bucher, Proestler, and the others — seem honestly surprised that their government officials have forgotten that entrepreneurs are people, too.
“They seem to be doing everything possible to drive us out of business,” Proestler says, “even though we’re the people . . . we’re the people who pay for government.”