We developed an economic forecast model to estimate the impact that the response to the coronavirus disease 2019 (COVID-19) pandemic will have on the revenues of cities throughout California. Almost all cities are projected to lose some revenue, but we found that COVID-19 restrictions significantly impacted cities that rely on tourism and entertainment. Economic forecasts indicate that because of COVID-19 restrictions, 32 cities will lose general fund revenues that exceed 20 percent of their annual expenditures by the end of fiscal year 2020-21. Eleven of these cities may need to cut services and expenditures or raise revenue to close budget gaps. The remaining 21 cities likely have sufficient budget reserves to help them offset revenue reductions.
We analyzed three factors to identify the cities that are facing significant revenue reductions because of the economic consequences of the COVID-19 response:
We contracted with the California Economic Forecast to develop the economic forecasts we used in this analysis. These forecasts are conservative and do not take into consideration current events, such as wildfires, that may further affect cities’ revenues. The forecasts also incorporate the following assumptions about how the economy is going to evolve through the remainder of fiscal year 2020–21:
After fiscal year 2020–21, the forecast assumes that production and consumer spending on retail goods should be restored during fiscal year 2021–22. Spending on consumer services will require another year to recover. Nevertheless, even as the economy recovers and business activity resumes under unrestricted conditions, the recovery of employment will lag behind that of the rest of California’s economy. Consequently, full restoration of employment in retail, leisure, hospitality, and personal services is not generally projected until fiscal year 2023–24.
We identified the revenue sources that would be significantly impacted by COVID-19 and analyzed city level data from the State Controller’s Office (State Controller) to determine each city’s reliance on those revenue sources. Based on our analysis and guidance from the California Economic Forecast, we evaluated the revenue sources included in Table 1.
|1. Hotel Taxes||A tax charged to guests in hotels and other forms of lodging, including properties rented through home sharing services. This tax—also referred to as transient occupancy tax—is levied for occupying a room, rooms, or other living space for a period of 30 days or less.|
|2. Sales and Use Taxes||A tax imposed on the total retail price of any tangible personal property and the use or storage of such property, unless otherwise exempted by law. This tax may also apply to purchases shipped to a California consumer from another state, including purchases made by mail order, telephone, or Internet.|
|3. Business License Taxes||A tax on businesses for conducting business within the city.|
|4. Admissions Taxes||A tax on the consumer for attendance at recreational and entertainment activities and events within the city.|
|5. Parking Taxes||A tax on the occupancy of off-street parking spaces in specific locations, such as major airports and tourist destinations.|
Source: The California Municipal Revenue Sources Handbook, Fifth Edition, published by the League of California Cities.
We evaluated hotel taxes, sales and use taxes, business license taxes, admissions taxes, and parking taxes because we anticipated that COVID-19-related business shutdowns would significantly reduce these revenues. We also evaluated property taxes and property transfer taxes because they are collectively large sources of revenue for many cities.Property taxes are taxes imposed on real property (land and permanently attached buildings) and tangible personal property (such as boats, aircraft, or business equipment) based on the value of the property. Property transfer tax is the tax imposed on the transfer of ownership in real estate. Documentary transfer tax is a tax imposed on documents recorded in the transfer of ownership in real estate. Both types of tax are typically based on the value of the property being transferred. The California Economic Forecast’s analysis indicates that property tax related revenues were not impacted by the State’s response to COVID-19. We also excluded other types of tax revenues because our analysis indicated that they were likely not significantly impacted by the pandemic response.
We used data collected by the State Controller from cities to calculate the percentage of revenue generated by each city from hotel taxes, sales and use taxes, business license taxes, admissions taxes, and parking taxes. At the time of our analysis, State Controller’s most current data was for fiscal year 2018–19. To develop estimates of these taxes, we applied these percentages to the 2018-19 general fund revenue information we collected from each city’s audited financial statements.
Only a small number of cities impose parking and admissions taxes. Parking taxes are generally collected near major airports or tourist destinations. San Francisco and Los Angeles accounted for more than 80 percent of total parking tax revenue. Additionally certain cities impose admissions taxes if they hold larger recreational and entertainment activities and events. The California Economic Forecast developed projections for parking and admissions taxes for the following cities because they levied these taxes, and the amounts were relevant for consideration.
|Parking Taxes||Admissions Taxes|
|South San Francisco|
Twenty-eight cities did not have fiscal year 2018–19 financial statements and two cities had fiscal year 2018–19 financial statements that did not conform to Generally Accepted Accounting Principles. For 21 cities, we used fiscal year 2017–18 financial statements as a proxy for fiscal year 2018–19 financial data. We excluded the nine cities listed below because their financial statements were for fiscal year 2016–17 or earlier, they did not have complete financial statements, or their financial statements did not conform to Generally Accepted Accounting Principles.
The California Economic Forecast developed the economic forecasts that we used to project revenue reductions from hotel taxes, sales and use taxes, business license taxes, admissions taxes, and parking taxes for each city. We applied these county-level projections to the cities within each respective county. The projections include a lower bound or minimum, the midpoint, and an upper bound or maximum for each revenue source by county. For our analysis, the minimum value represents the city’s best case scenario in which it is least affected by the pandemic, and the maximum represents the city’s worst case scenario in which it is most affected by the pandemic. We used the midpoint (or point estimate of the forecast) for our final analysis because that is the middle of the range, representing the most accurate projection according to the California Economic Forecast. We also provide contextual information about property taxes and property transfer taxes below.
We summarize, the information that the California Economic Forecast used to develop its projections in Table 2. It chose these particular economic indicators after its extensive testing demonstrated which indicators were most highly correlated with the revenue source over time.
|Revenue Source||Data and Assumptions Used to Develop Economic Projections|
|1. Hotel Taxes||
|2. Sales and Use Taxes||
|3. Business License Taxes||
|4. Admissions Taxes||
|5. Parking Taxes||
|6. Property Taxes||
|7. Property Transfer Taxes||
Source: The California Economic Forecast.
*The UCLA Anderson Forecast was published September 29, 2020.
All revenue sources except sales and use taxes use a confidence interval of 90 percent, which is statistically valid and provides cities a range that will be meaningful as they make decisions related to potential fiscal challenges. A confidence interval indicates a range of values that is likely to encompass the true value for a particular criterion. A confidence interval’s level of significance—or percentage—represents the likelihood that the true unknown value resides in that range. With a 90 percent confidence interval, the California Economic Forecast is confident that in nine out of 10 statistical tests, the actual value exists in the given range.
For sales and use taxes, the California Economic Forecast used a different method by which it developed the midpoint by extrapolating taxable sales into the future using a close proxy for sales and use taxes. For this analysis, the proxy data is consumer spending from credit cards and county-level statewide taxable sales growth from the UCLA Anderson Forecast. To accommodate a reasonable range of possibilities, an upper and lower bound for taxable sales that spans 95 percent to 105 percent of the forecast was calculated for each county.
We found admissions taxes to be relevant to the analysis for only five cities in the State: Avalon, Indian Wells, San Fernando, Santa Cruz, and Wheatland. Cities generate significant admissions tax revenue through ticket sales to large public events. However, since March 2020, such events have been canceled and are projected to be either prohibited or largely avoided by consumers through the end of fiscal year 2020–21.
The California Economic Forecast analysis indicates that property taxes and property transfer taxes were not and will not be negatively affected by COVID-19 and are likely to increase in many counties across the State due to increased home sales and selling prices. Although these increases may offset the reductions we reported in our final results, we did not factor them into our analysis because our intent was to identify potential revenue losses for each city due to the effects of COVID-19. In addition, because the methodology for allocating property taxes varies throughout the State, the amount of property tax a city actually receives may not align proportionately with changes in the volume of home sales. Counties allocate property tax revenue to local governments by tax rate area. The methodology for allocating increases in property tax revenue is dependent on the methodology established by the individual counties and the growth factors specified for each tax rate area.
We compared our analysis of each city’s estimated revenue changes to the cities’ fiscal year 2018–19 general fund reserves and general fund expenditure data that we obtained from their audited and publicly available financial statements. The general fund reserve data include committed, assigned, and unassigned fund balances. The general fund expenditure data include expenditures and transfers out (transfers from the general fund to other city funds). We used this information to estimate the extent to which each city’s general fund reserves would allow it to absorb the revenue losses we estimate.