CLASS IN SESSION

On some level, even detractors of Arnold Schwarzenegger have to hand it to the new governor for the way he's manipulated the car-tax issue. In a matter of three months, he's been able to use the tax to help topple his predecessor, cause flocks of local government officials to praise him for creativity and leadership in the press-and embarrass his strongest political opponent.

Along with the issue of granting driver's licenses to undocumented immigrants, the car tax played a huge public role in the recall of former Gov. Gray Davis. Ask someone why they voted for the recall, and there's a good chance they'll say, “That bastard tripled my car tax.”

Once in office, Schwarzenegger played the hero by reducing the tax with a stroke of his mighty pen. Meanwhile, the Democratic legislative leadership, led by Senate President Pro-Tem John Burton, played the villain by not letting Schwarzenegger give billions of dollars to local governments so they can keep their citizens safe, libraries open, parks maintained and streets repaired.

City mayors and county boards of supervisors up and down the state cheered while Burton grumbled about mounting a legal challenge to Schwarzenegger's move, which only made Burton look like a sour-grapes obstructionist bent on stealing candy (money) from a baby (cops, firefighters and librarians).

But, as is the norm in politics, there's more than meets the eye. It's easy to get lost in the rhetoric, especially when election time comes 'round. Amid Schwarzenegger's delivery of a campaign promise to reverse Davis' action on the car tax and the subsequent war of words between the Governor, the state Legislature and all the cities and counties in California over who's going to pay for Schwarzenegger's action, CityBeat thought it helpful to teach a class called Car Tax 101, which includes equal parts history, economics, political science and civics.

So take out a pencil and a pad of paper, kids, and... hey, you in the back row-pay attention!

It's a good bet that the vast majority of Californians old enough to drive-and attentive enough to know that the car tax has been a rancorous element of political discourse for the past six months-think Davis simply decided willy-nilly to triple the tax as a way to help solve the state's budget mess. Schwarzenegger certainly used that surface-level understanding of the issue to his advantage by pledging, essentially, to right Davis' horrible wrong.

But it isn't quite that simple. A bit of history:

Back in 1998, when dot-coms were booming and the national economy was sitting pretty, California was basking in the golden glow of a healthy budget surplus. As then-Gov. Pete Wilson's term was winding down, he signed a bill passed by the state Legislature that enacted a 25-percent cut in the car tax and promised more cuts as long as the state continued to bask in good economic fortune.

The tax, officially known as the vehicle license fee, is a levy on personal property. First imposed in 1935 at 1.75 percent of a vehicle's depreciated value, it was raised to 2 percent in 1948. (It's seen as a fairly high tax rate; by comparison, boats and airplanes are taxed at a 1 percent rate.) You pay the fee each time you register your car (which requires a separate fee), and the money is collected by the state. The state is supposed to pass it on to county and city governments, and local politicians do whatever they see fit with the money.

“People don't realize that it was originally a local source of revenue-that it never belonged to the state, it never was intended to go to the state for the state to use to run their operations,” said Ron Villa, budget director for the city of San Diego. “It was strictly intended for local governments. So for [state officials] to be playing around with it and withholding funds is just unconscionable.”

Even so, in the early 1980s, the Legislature kept some of the money, reducing payments to local governments by roughly $700 million over a three-year period. In response, voters in 1986 passed Proposition 47, which mandated that all revenues generated by the vehicle license fee (VLF) go to local governments. The fee represents the third biggest pot of tax funding for local governments, behind property and sales taxes. It equals about 10 percent of total revenue for the average city, about one-quarter of the total revenue for the average county.

Gray Davis inherited the initial 25-percent VLF reduction when he took office in January 1999. The original law called for future reductions of the tax, and during his first two years in office, Davis signed bills that accelerated the additional cuts-another 10 percent in 1999 and another 32.5 percent in 2000. By that time, the rate was down to .65 percent of a car's depreciated value, so a person whose car was valued at $10,000 paid $65 that year, rather than $200 at the traditional 2 percent rate.

Meanwhile, in the absence of billions of dollars that would have been going to the cities and counties under a full, 2-percent fee rate, the state promised to pay local governments the money anyway, a payment known as a “backfill.” Of course, that means the state was spending money from its general fund that had previously been coming from car owners. Between Jan. 1, 1999 and June 30, 2003, reduction of the car tax cost California $12 billion.

Another way to look at it is that, very roughly speaking, over a period of four and a half years, the state spent $12 billion giving the average car owner about $110 a year.

That didn't become an issue until 2001, when the words “budget crisis” charged back into the California lexicon. In fiscal year 2001-02, the car tax reduction accounted for $3.6 billion of a total state deficit of $10 billion and change.

Last June, amid a national recession and a looming $38 billion state deficit, Davis announced that the state was in such deep economic trouble that it could no longer afford the local government backfill, so he restored the 2-percent VLF rate.

The 1998 law that called for the tax cut allows the governor to scrap it without a vote of the Legislature if the state has “insufficient monies” to pay the backfill to cities and counties. Problem is, the law doesn't exactly spell out what that means. “The statute is very vague on what constitutes ‘insufficient monies'... and how often that determination is made,” said Mark Ibele, an fiscal and policy analyst with the Legislative Analyst's Office. “The previous administration had one view of it, and [Schwarzenegger's] administration has another.”

Davis' view of the law turned out to be an unpopular one. His critics made political hay of the issue. In the minds of many voters, Davis was “tripling” their taxes because he was too inept to keep the state's finances in order. Schwarzenegger seized the opportunity and promised to give voters back their fee rebate-by golly, he was going to put $135 back into the pocket of that person with a $10,000 car.

So he did. It was the first thing he accomplished as governor. He officially declared that Davis' action had been based on an erroneous interpretation of the 1998 law and reversed it. But that extra $135 in John Q. Public's pocket meant cities and counties weren't getting $2.6 billion they'd normally be spending on frills such as police and fire services, library hours, park upkeep, street maintenance and employee paychecks. You see, Davis had already signed the budget for the current fiscal year, and since he decided car owners were going to foot the bill, he included no backfill appropriations for the cities and counties.

Schwarzenegger asked the Legislature to meet in a special session to pass a bill that would hand those funds over to the locals, but the Democratic legislative leadership said no dice, arguing that Schwarzenegger had offered no acceptable way to come up with the money. The budget had been balanced-albeit with smoke, mirrors and heavy borrowing-and that extra money had to come from somewhere. City and county officials, warning of massive layoffs of public employees, particularly cops and firefighters, grew angry with Schwarzenegger.

In response, the Governor snookered the Legislature by finding language in the 2003 Budget Act that allows him to unilaterally appropriate $2.65 billion to local governments. It also allows him to take up to 5 percent of funding for specific budget items and move it elsewhere, so he identified nearly $150 million in cuts to farmworker housing, job training, child-support services, welfare programs and higher education and gave it to the locals.

Villa, the San Diego budget director, says he's “cautiously optimistic” that a check from the state is forthcoming. “We're supposed to be getting a check on Dec. 26, but we have no idea what that check is going to include-if it's going to include our full backfill, if it's going to include partial, we just don't know.”

Villa noted that even with the Governor's action, cities and counties lost millions of dollars thanks to the gap between the time Davis restored the full car tax in June and the time it became effective on Oct. 1. San Diego alone lost $12.6 million. Schwarzenegger promised to pay the cities back for that lost backfill in 2006.

“And if you believe that...” mused Villa. “We can book it as a receivable, but whether or not we would ever see that, who knows.”

Where's it all coming from?

Just a few places where Arnold Schwarzenegger found money to help pay for the car tax reduction:

* $41.1 million Cut from the state welfare system and replaced by federal-reserve funds. Which means the state has depleted federal money available to fund this vital welfare-to-work program. For fiscal year 2004-05 and beyond, the state will have to come up with a couple million bucks to cover CalWORKS costs.

* $2 million Elimination of the University of California's Institute for Labor and Employment. The ILE has, in the past three years, funded more than 300 public-policy research projects including a study that showed the feasibility of SB 2-the employer-funded health insurance bill signed into law in October. The institute also provides outreach to working families.

* $50 million Funds from “unspent” Cal Grants-no-strings-attached money given to eligible students to help pay for college

* $12.4 million California State University “outreach funding” that goes towards helping kids from poor and immigrant families get into college. CSU Chancellor Charles Reed issued a press release saying he refuses to cut this program and will instead ask each CSU campus to cut its enrollment growth by 1 percent.

Car tax fun-facts:

* The majority of vehicle license fee money goes to law enforcement and “first responder” services. * Roughly one-quarter of VLF revenue funds health and human services programs. In 2001-02, that portion of VLF revenue ($1.35 billion) was divided up thusly: Health $1.02 billion
Mental health $283.2 million
Social services: 43.9 million
* According to the California State Association of Counties, in some counties, VLF revenue outpaces property tax as the largest source of revenue. -Kelly Davis