UnempIoyment Insurance and COVID-19
State Funding Needed to Offset UI Fraud, Minimize Employer Tax Hike
Through federal and state cooperation, unemployment insurance (UI) benefits act as a stabilizer and safety net during economic downturns by providing temporary, partial wage replacement for workers who have become unemployed through no fault of their own and are looking for employment. To induce states to enact UI laws, the Social Security Act of 1935 provided a tax offset incentive to employers, if a state UI program complies with federal requirements, including fully funding benefits for state claimants.
In addition to maintaining federal standards, each state has primary responsibility for the content and development of its UI laws and administration of the program. California administers its UI program through the Employment Development Department (EDD).
Program Funded by Employers
California’s UI program is funded exclusively by employers, via state and federal taxes on wages. The only exceptions to this rule are temporary federal grants for administration and certain emergency and extended benefits that have been paid from federal general revenue — some of which were utilized during 2020 in response to COVID-19 and are discussed below. Employees do not pay any UI taxes.
Employer contributions are deposited in the Unemployment Trust Fund (UI Fund) of the U.S. Treasury Department. States withdraw money from their accounts in the trust fund exclusively to pay UI benefits. If a state trust fund does not have adequate funds to pay benefits, a loan is made from the federal fund so that all claims are paid.
Generally, the federal UI tax is fixed at 6% of wages up to $7,000 per year per employee for all employers in the state (FUTA taxes), offset by a 5.4% credit in states that comply with federal UI laws (FUTA tax credit), resulting in a payable rate of 0.6%. Assuming the state is in compliance and its UI Fund is solvent, this comes to $42 per employee per year. FUTA taxes are due January 31 following the year in which the taxes are applied (for example, 2018 taxes are due January 31, 2019).
If a fund remains insolvent for two consecutive years, then FUTA tax credits are reduced annually and cumulatively by 0.3 percentage points until the fund returns to solvency, creating a steadily growing tax increase on the state’s employers.
COVID-19 and Unemployment Insurance
COVID-19 and the related economic shutdown brought UI policy to the forefront in California and nationally. As COVID-19 crashed across the nation, and businesses complied with state-mandated safety precautions and shutdowns, unemployment rose rapidly to levels not seen since the Great Depression. Unemployment insurance was used to backfill this economic crater, keeping food on the table for many Californians and providing critical stability to the economy. Little discussed was the inevitable tax consequence for employers.
Unlike prior recessions (such as the recent Great Recession), entire sectors of the economy were forced to shut down or operate at severely reduced capacity, due to self-isolation by customers, mandates from government, or broken supply chains. This meant many employers were compelled to terminate much or all of their workforce, and then pay unemployment compensation for this compelled termination.
Although parts of the economy were showing signs of recovering as the state headed to 2022, California businesses (particularly the greatly diminished restaurant and hospitality sectors) continue to struggle with the dual challenges of state-mandated shutdowns and ongoing COVID-19 safety costs. The question in front of policy makers is: how can the state help fix the present insolvency of the UI Fund, which was created in large part when state and local officials forced businesses to act as a statewide social safety net?
Federal Response and Increased Benefits
Multiple rounds of federal legislation struck a careful balance in 2020 — providing additional benefits to employees without placing the cost on employers. First, the Families First Coronavirus Response Act (FFCRA – HR 6201) provided federal funding for extended UI benefits and waived charging interest for loans to states whose UI funds became insolvent. Then the Coronavirus Aid, Relief, and Economic Security (CARES) Act (HR 748) provided a host of significant changes, including hundreds of billions of dollars to fund a $600 increase in weekly UI benefits through July 31, 2020 for all recipients, and to create a new category of benefits and extend existing categories of recipients. All these changes were federally funded, meaning they added no tax liability to California’s struggling businesses, but helped out-of-work Californians keep bread on the table.
Most of these benefits or extensions expired in 2021. Most notably, the Pandemic Unemployment Assistance program (which was focused on independent contractors and particularly susceptible to fraud), as well as the Pandemic Emergency Unemployment Compensation (which extended the duration of unemployment benefits by 13 weeks), expired in September 2021.
Fund Solvency: Comparing 2008 to the Present
When considering California’s present insolvency and the status of the UI Fund, a comparison to the Great Recession provides important context.
During the Great Recession, California’s UI Fund bottomed out at $10.3 billion in debt. This was a record at the time, and was not a result of a statewide shutdown, but a result of a financial panic. The subsequent recession created massive unemployment, but nothing compared to the rapidity and extent of the pandemic economic crisis. Employers paid elevated per-employee taxes from 2011 to 2017, when the fund returned to solvency.
By November 9, 2020, California had accumulated $15.7 billion in debt, according to the U.S. Treasury Department. By the end of 2021, California’s loan balance had risen to approximately $20 billion, with ongoing elevated levels of unemployment anticipated during 2022. Assuming no federal or state relief, California employers will face an increased tax burden on a per-employee basis — which will disincentivize hiring — for years to come.
Given that it took six years to repay the debt accumulated during the Great Recession, and the present insolvency is approximately twice as large, California employers will likely pay increased UI taxes beginning in 2023 and continuing well into the 2030s.
By way of example: in a normal year, employers pay $42 per employee for the UI Fund. In 2023, an employer will pay $21 more per employee, or $63 per employee, and $21 on top of that in 2024. Looking down the road to 2030, employers will be paying $210 per employee in FUTA taxes — an increase of 400% over a normal year.
EDD Capabilities and Fraud Concerns
The unprecedented surge of unemployment applicants caused by the state-mandated economic shutdowns laid bare the technological and logistical shortcomings in the EDD. Outdated technology and organizational bottlenecks around claims processing caused a huge backlog of applications, with some claimants waiting months for their claims to be processed. The EDD also failed to catch significant fraud due to its rush to distribute benefits. California paid an estimated $20 billion in fraudulent UI benefits, with at least $1.3 billion coming from the state’s UI Fund. Because California employers must pay increased taxes to bring the UI Fund back to solvency, employers will be directly responsible for paying the $1.3 billion in fraudulent payments from the UI Fund.
A slew of legislation from both parties during the 2021 legislative session aimed to increase fraud detection and improve practices at the EDD. Notably, AB 110 (Petrie-Norris; D-Laguna Beach) passed and allowed for improved information sharing to prevent fraud by inmates in California’s penal system, and SB 390 (Laird; D-Santa Cruz) will compel the EDD to create a recession plan to improve future performance. However, much of the proposed legislation to increase oversight of the EDD and improve outcomes did not pass, leading to some ongoing concerns regarding the EDD’s future performance.
Repaying the Fund: Other States Use Federal Stimulus Dollars
Many other states — which implemented similar (or lighter) shutdowns and fell victim to similar UI fraud — allocated a portion of their federal stimulus funds to repay their UI debt. Both blue and red states have provided funds to mitigate higher taxes on employers due to COVID-19-related shutdowns, including Delaware ($209 million), New Hampshire ($50 million), Massachusetts ($181.8 million), Georgia ($1.5 billion), and Hawaii ($3.4 million). Most recently, the Texas legislature allocated $7.1 billion of its CARES Act funds to fully repay its remaining insolvency in November 2021.
California has provided no funds to assist employers with the massive insolvency of the UI Fund, despite both causes of the insolvency (statewide economic shutdown and the EDD’s failure to prevent fraud) being outside of employers’ control.
Unlike in the Great Recession or in normal times, the massive unemployment in 2020 and 2021 was not the result of the business cycle or business decisions made by individual employers. A global pandemic caused customer insecurity and state and local shutdown orders, which directly led to job terminations. Similarly, employers had no ability to prevent the EDD’s mismanagement of fraud detection during the pandemic.
California’s policy makers must acknowledge this partial responsibility in creating the unprecedented insolvency of California’s UI Fund and, following the lead of other states, provide at least $3 billion in state funding and tax credits. The funds will repay the account for the fraudulent payments disbursed by the EDD and minimize the approaching per-employee tax increases that will soon hit California employers.
Thankfully, Governor Newsom’s January proposal for the 2022–2023 budget includes $3 billion over two years in direct payments to the UI Fund. The CalChamber supports the Governor’s proposal and is glad to see California’s government taking responsibility for the role of fraudulent disbursements and safety-related shutdowns in causing the insolvency of the fund.
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