No California RANs this year despite income tax filing extension

California has no plans to issue short-term notes to manage cash flow this year despite faltering revenues and disaster declarations that delay the income tax filing deadline for most Californians until October.

Gov. Gavin Newsom announced on March 2 the state, like the IRS, would extend the tax filing deadline to Oct. 16 for Californians in the 51 counties that received disaster declarations from the Federal Emergency Management Agency after severe winter storm in late December and early January.

The move raised questions about whether it could create cash flow problems for the state government, or opacity around budget time, because the governor typically revises his budget and forecast in May using revenue figures based on the April income tax filings.

“April tax collections are a very important data point in the formation of state revenue forecasts,” said Brian Uhler, a deputy legislative analyst in the non-partisan Legislative Analyst’s Office. “Without that information, the revenue estimates the Legislature will use to craft its budget in June will be considerably more uncertain.”

It increases the “risk that the Legislature will make decisions or assumptions that it will need to revise later once we learn more about revenue collections,” Uhler said.

The strength of the state’s current cash position will enable it to avoid issuing short-term notes for cash flow, however.

“Unlike the situations in the past, the state has substantially greater internal borrowable resources to address cash issues,” said H.D. Palmer, Department of Finance spokesperson. “We don’t envision having to go to market for external cash flow borrowing like revenue anticipation notes.”

The state affirmed that position in a March 1 supplement to preliminary offering documents for $1.8 billion in taxable various purpose general obligation bonds that priced Wednesday.

“The 2023-24 governor’s budget cash flow projections for fiscal year 2023-24, adjusted for the March 2 extension of the Franchise Tax Board tax filing deadline to October 2023, assumes an estimated cash cushion of unused internal borrowable resources of at least $8.2 billion at the end of each month,” states the supplement signed by State Treasurer Fiona Ma. “The state does not plan to issue any RANs in fiscal year 2023-24, the ninth consecutive year in which external borrowing is not required.”

The last time the state had to issue a RAN to “smooth out the peaks and valleys of when the state takes in most of its cash in the first half of the calendar year and when it pays most of its bills, the second half,” was in September 2014 in the amount of $2.8 billion, Palmer said.

It had regularly issued short-term debt to cover short-term imbalances from the 1980s until 2014.

The state hasn’t had to borrow externally because the state’s internal borrowable resources, including its rainy day funds, have reached a historically high level, Palmer said.

“When voters passed Proposition 2 in 2014, [which designates a portion of revenues go into a rainy day fund], it made the balance of the budget stabilization and rainy day fund available for internal borrowing. That and prudent cash planning mean that unlike in past times when there were difficult budget situations, we have ample cash resources, so we don’t have to borrow using RANs.”

The Legislature also passed several laws in 2009 that broadened the list of internally borrowable funds, Palmer said.

“These two actions — combined with significant revenue increases in recent years and prudent budget and cash management policies — have meant that the state has had ample resources on hand that have made external cash flow borrowing unnecessary,” Palmer said. “Underscoring this point, the controller’s most recent monthly cash report indicates that at the end of January, the general fund cash ($32.7 billion) and unused borrowable resources ($93.8 billion) cushion was $126.5 billion.”

For the May budget revision, Palmer said, “we will be developing new projections for the state’s monthly cash position in light of the IRS deadline change and our updated economic and revenue forecasts. And while this work won’t be completed for several months, and no definitive determination can be made at this point, our historically high cash resources will continue to be sufficient so that RANs will not have to be issued.”

It is fortunate for the state that the income tax filing delay happened in a year when it has strong cash flow and unused borrowing resources, said David Hitchcock, S&P senior director.

S&P affirmed its AA-minus rating and positive outlook in connection with this week’s California GO deal. Moody’s Investors Service affirmed its Aa2 rating and Fitch Ratings its AA rating, both maintaining stable outlooks.

This year’s budget will be challenging for several reasons, Uhler said,.

“In light of heightened uncertainty about the economy and future revenue collections, we have suggested the Legislature take a more cautious approach about deploying reserves and using its budget resilience in the short term,” he said, referring to the LAO’s Feb. 13 written report to lawmakers. “This advice would continue to hold in the presence of continued, or even heightened, uncertainty as a result of the tax filing deadline change.”

Originally, the state had anticipated the deadline would be extended from January to May, now it’s shifting billions in corporate and personal income taxes into October, Hitchcock said.

“It’s no accident the May budget revise comes out when it does given the income tax filing deadline is in April,” Hitchcock said. “What this does is create extreme uncertainty in the revenue forecast. That could be an issue, and we will see how accurate it is.”

Another issue is that the projected $22.5 billion estimated deficit in the governor’s January budget could grow by $7 billion, as the Legislative Analyst’s Office said in a recent report, Hitchcock said.

S&P analysts noted in a March 1 report that neither the state nor the U.S. are forecasting a recession, while S&P’s economists are forecasting a mild recession.

“It is possible that the revenue forecast could be downsized if a recession occurs, because they are forecasting no recession,” Hitchcock said.

But as it stands now, with about $32 billion in one-time spending included in the fiscal 2023 budget, which is larger than the projected budget gap of $22.5 billion, California could close the budget gap by curtailing one-time spending, Hitchcock said.

In fiscal year 2021-22, nearly 70% of state general fund revenues came from personal income taxes, which include taxes from individuals, sole proprietorships, partnerships, S corporations and limited liability companies that file business income on personal tax returns, according to the State Controller’s Office PIT daily revenue tracker. About 70% of personal income taxes are collected year-round from payroll withholding, and will not be affected by the deadline change.

“On a budgetary basis, revenues will accrue back to the current fiscal year that ends on June 30, back to the year the revenue was collected,” Palmer said.

“The uncertainty around interest rates underscored that this would be a tough year to forecast,” he said. “That is why the governor said in January he would not propose the state tap reserves. This does add a new degree of uncertainty to what already existed,” he said.

As in 2020, when tax filing deadlines were extended to July 15 from April 15 because of the pandemic, the state has a lot of other information it can use to guide forecasts, including updated economic data, stock market data and personal income withholding data, Palmer said.

“But not seeing the complete picture on January estimated payments and April final and extension payments related to tax year 2022 will increase the uncertainty around the forecast for personal income and corporate income tax liability for tax year 2022,” Palmer said. “We would also note that sales tax deadlines aren’t affected by the just-announced IRS actions, so we don’t anticipate an effect there.”

The shift of a significant portion of the state’s tax revenue from the current fiscal year into the next fiscal year, potentially has a significant cash flow impact, Fitch Ratings analysts wrote in a March 1 ratings report. But the state “reports it has sufficient internal liquidity and borrowable funds to address this anticipated impact,” analysts wrote.

“It is Fitch’s expectation that the state will continue to make decisions that support a structurally balanced budget and that it will take the steps necessary to align expenditures with revenues as the revenue outlook developers,” Fitch analysts wrote.