The Path to Responsible Financing of California’s Unemployment Insurance System

For over two decades, California’s unemployment insurance system has failed to generate sufficient reserves to pay unemployment benefits during even a mild recession. Indeed, when jobs were plentiful and corporate profits soared during the Dot-Com Boom of the late 1990s, California’s unemployment insurance trust fund still collected less revenue from employers than it paid out in state benefits.

Then the bottom fell out when the Great Recession hit in 2007, driving the unemployment rate to a peak of 12.4% in February 2010 and nearly doubling the number of workers collecting state benefits by 2009. As a result, California’s unemployment system was one of the first in the nation to go bust (in January 2009), and it is now in debt to the tune of $10.7 billion to the federal government to honor its obligation to pay the basic 26 weeks of state benefits. And that does not include the interest on the federal loans, which has already surpassed $600 million, with almost $600 million more coming due in 2013 and 2014.

The federal loan has produced serious fallout for California’s employers, workers and taxpayers. Each year, California’s employers are charged an additional $21 per worker in federal unemployment insurance (UI) taxes until the loan is paid back (the federal tax has reached $63 per employee, and it will increase to $84 in January 2015). That’s money that goes straight to the federal Treasury, not back into the state’s unemployment trust fund to build up the state’s reserves. Moreover, the state’s taxpayers are on the hook to pay the interest on the federal loan, not the state’s employers. That’s because the Legislature borrowed money from the State Disability Insurance (SDI) fund, which is financed by California workers, to pay the $600 million in federal interest thus far accumulated.

As most everyone agrees, this patchwork system is not sustainable to build the reserves necessary to pay benefits when the next recession hits, as it does on average every four years in California. As detailed in his 2013-2014 annual budget, Governor Brown has convened state officials, business and labor leaders to respond to the solvency crisis. The solvency crisis threatens the foundation of an invaluable program that has pumped nearly $40 billion in hard cash into the state’s struggling economy since the crash began in 2007 (not including $20 billion more in federally-funded benefits paid in 2011-2012 alone) and supported millions of unemployed workers and their families hardest hit by the recession.

While the magnitude of the problem could not be more severe (California’s debt to the federal government represents over one-third of all the outstanding state loans), the specific causes of the crisis and the solutions are painfully clear. The simple fact is California pays especially modest unemployment benefits, while the state’s employers pay some of the lowest unemployment taxes in the state’s history. As illustrated in Figure 1, the average UI taxes collected from California employers (calculated as a percent of total wages paid in the state) have fallen sharply in recent decades. During the last decade (from 2000-2009), California employers contributed just 0.70% of the total wages to the unemployment insurance trust fund, which is less than half of what they paid during the 1970s and far less than prior decades.

The unemployment insurance debt crisis presents a genuine opportunity to return to the basic insurance principles of the program, thus raising adequate revenue in good times, when payrolls are expanding, to pay adequate benefits and boost the economy when hard times hit. As detailed below, to achieve this goal, reform of the state’s unemployment financing system should include the following key elements:

  1. Raise the $7,000 taxable wage base to $17,500 to reflect inflation and wage increases since it was last increased in 1983 (most of the neighboring states average over $25,000 and index their taxable wage base);
  2. Increase the maximum tax rate of 6.2% to at least 8% to ensure that all the state’s employers contribute their fair share to the unemployment insurance trust fund;
  3. Impose an emergency surcharge on employers to pay the $600 million in interest on the federal loan for 2014 and 2015, which in 2011-2012 was financed from loans provided by the employee-funded SDI program; and
  4. California should follow the lead of 33 states and index the state’s unemployment benefits to provide more adequate income to support unemployed families (California’s average benefits now rank 43rd lowest in the nation).

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