Press Room: Tax Release

November 09, 2012

Proposition 30 – What It Means for California Taxpayers

California voters approved Proposition 30 by a 53.3% to 46.7% margin on November 6, 2012. Proposition 30 was perhaps the most hotly debated proposition on the 2012 ballot, with the campaigns for and against the proposition receiving over $120 million from donors.

In addition to increasing the state sales tax from 7.25% to 7.5% for a four-year period (2013 through 2016), the proposition retroactively increases income tax rates on California individual taxpayers with incomes over certain thresholds. Pursuant to Proposition 30, the marginal tax rates for 2012 through 2018 are increased as follows:

Taxpayers who have already made their 2012 quarterly estimated tax payments based on the prior marginal tax rates will not be subject to underpayment penalties related to the tax rate increase; to the extent any underpayment is attributable to the newly increased rates, underpayment penalties will not apply. Consequently, taxpayers making quarterly tax payments have until April 15, 2013 to pay the additional tax liability related to Proposition 30’s rate increase.

Due to the retroactive nature of Proposition 30, California taxpayers are given little opportunity to minimize the impact of its tax rate increases in 2012. However, taxpayers may want to consider Proposition 30’s effects when evaluating their portfolios; the increased tax rates make the after-tax return on investments that are taxable in California (such as non-California municipal bonds) less attractive. For example, at a 10.3% tax rate the after-tax income from a California bond paying 5% interest is equal to the after-tax income from a non-California bond paying 5.5741% interest, but at a 13.3% tax rate the interest rate on the non-California bond needs to be 5.767% to achieve the same after-tax income. Because the after-tax return on non-California bonds is impacted by the increased California tax rates, investors seeking to match their pre-Proposition 30 income stream from bonds may need to adjust their portfolio. Some options include increasing allocation to California bonds, increasing overall fixed income allocation, or seeking out higher yields on non-California bonds.