Analysis by the Legislative Analyst

BACKGROUND

State and local governments impose a variety of taxes and fees on people and businesses. Generally, taxes— such as income, sales, and property taxes—are used to pay for general public services such as education, transportation, and the courts. Fees, by comparison, typically pay for a particular service or program benefitting individuals or businesses. There are two major categories of fees:

– User fees, such as state park entrance fees and garbage fees, where the user pays for the cost of a specific service or program.

– Regulatory fees, such as fees on restaurants to pay for health inspections, smog check fees, and land development fees. Regulatory fees pay for programs which place rules upon the activities of businesses or people to achieve particular public goals.

The State Constitution has different rules regarding taxes and fees. Most notably, the process for creating new taxes is more difficult than the process for creating new fees. As Figure 1 shows, state or local governments usually can create or increase a fee by a majority vote of the governing body. Imposing or increasing a tax, in contrast, requires approval by two-thirds of the state Legislature (for state taxes) or a vote of the people (for local taxes).

Figure 1.

State and Local Fees and Taxes: Approval Requirements
	Fee	Tax
State	Majority of Legislature	Two-thirds of Legislature
Local	Generally, a majority of the governing body.	Two-thirds of local voters (or a majority of local voters if the use of the money is not designated for a specific purpose).

In recent years, there has been disagreement regarding the difference between regulatory fees and taxes, particularly when the money is raised to pay for a program of broad public benefit. In 1991, for example, the state began imposing a regulatory fee on those paint companies and other businesses which make or previously made products containing lead. The state uses this money to screen children at risk for lead poisoning, follow-up on their treatment, and identify sources of lead contamination responsible for the poisoning. In court, the Sinclair Paint Company argued that the regulatory fee was a tax because (1) the program provides a broad public benefit, not a benefit to the regulated business, and (2) the companies which pay the fee have no duties regarding the lead poisoning program other than payment of the fee.

In 1997, the California Supreme Court ruled that this charge on businesses was a regulatory fee, not a tax. The court said government may impose fees on companies which make contaminating products in order to help correct adverse health effects related to those products.

PROPOSAL

This proposition, which amends the State Constitution, would classify as "taxes" some new charges that government otherwise could impose as "fees." As taxes, these charges would be subject to the more difficult approval requirements shown in Figure 1.

   Which Fees Would Be Considered Taxes?

This proposition affects fees imposed for the primary purpose of addressing health, environmental, or other "societal or economic" concerns. The proposition states that charges imposed for these purposes are taxes, unless government also imposes significant responsibilities on the fee payer related to addressing the public problem.

The proposition, however, exempts from these provisions:

– Any fee authorized before July 1, 1999. (Increases in these fees to cover the cost of inflation and workload changes would be permitted.)

– Any penalties, or money paid as damages for the cost of fixing a problem associated with a specific event (such as a penalty imposed to clean up a hazardous waste spill).

Example. Under current law, the state could impose a charge on businesses which sell cigarettes and use the money to provide health services to people with smoking-induced illnesses. The state could create this charge as a "regulatory fee" by a majority vote of the Legislature. Unless the state also imposed other significant duties on the businesses, this proposition would define this charge to be a "tax." As a tax, the cigarette charge would require approval by a two-thirds vote of the Legislature.

   Constitutional Standard Regarding the Amount of a Regulatory Fee

This measure also places into the State Constitution a provision regarding the level of regulatory fees. Specifically, if a regulatory fee is greater than the reasonable cost of regulating the activities of the business or individual, the regulatory fee is a tax. In this regard, the proposition's wording appears similar to the standard that courts currently use to distinguish between regulatory fees and taxes.

FISCAL EFFECT

This proposition's primary fiscal effect would be to make it more difficult for government to impose new regulatory charges on businesses and individuals to pay for certain programs. Some charges which government currently may impose as fees would be considered taxes. To the extent that a newly defined tax does not obtain the higher level of approval required for a tax, government would receive less revenue than otherwise would have been the case.

The amount of future revenues potentially reduced due to the more difficult approval requirement cannot be estimated. This revenue reduction could range from minor to significant. The amount would depend on the factors discussed below.

– Resolution of Legal Questions. The range of fees affected by this measure would depend on court interpretation of many matters, including the purpose of future fees, the level of additional responsibilities assigned to fee payers, and any difference between the proposed standard regarding the cost of regulatory fees and the current standard.

– Actions by Legislature and Public. The voting decisions of local residents and the Legislature would also affect the proposition's fiscal impact. For example, if most newly designated taxes are approved (even with the higher vote requirements) the proposition would have little effect.

– Actions by State and Local Governments. Government decisions regarding regulatory requirements would affect the proposition's fiscal effect. Under this proposition, if government imposes a new fee and, in addition, imposes a significant "regulatory obligation" on the fee payer, the fee would not be redefined as a tax. (While the proposition does not define the term regulatory obligation, this term presumably includes duties such as requiring a business to change the way it makes a product or provides a service.) Thus, if governments impose significant regulatory duties along with new fees, the proposition may have little fiscal effect. (Implementing or participating in new regulatory programs, however, could impose other costs on businesses or individuals.)