City Finance: Council moves towards business tax ballot measure

 

by Mark McDermott 

It turns out there may be a reason why the City of Manhattan Beach’s business tax structure has remained untouched for 55 years. 

The tax is considered outdated and often inequitable, with the largest businesses paying a much lower rate than the mom and pops stores and other small businesses that the city so cherishes. But changing it, as the City Council has discovered, is a complex, messy, and somewhat boggling task. 

The council on July 21 voted unanimously to move a business tax overhaul toward the November ballot, but not the version it had spent the spring and early summer preparing. After nearly four hours of presentation, public comment and debate, the council directed staff to build a measure around a different structure than the one a professional pollster had just finished testing with voters. Staff will return August 4 with the ordinance and election resolutions the council must adopt to place the measure before voters November 3.

Councilmember David Lesser, who has paid a business tax in the city for 28 years, put the evening in context.

“There’s a reason why the city has not addressed our business license tax in a number of years, and we’re experiencing it tonight,” Lesser said, “particularly after having given direction and then realizing that there’ll be some winners and losers. Those that will be paying more and those that will be paying less.”

The tax brings in roughly $5.4 million a year, about 5% of the city’s general fund, and has not been meaningfully rewritten since 1971. It assesses businesses nine different ways depending on type, and its cap of $12,156 means a business grossing $4.5 million pays the same as one grossing $100 million. The stated goal throughout has been a simpler structure in which every business is taxed at the same rate on what it takes in.

In May, the council directed staff to poll that uniform approach, labeled Model 3: a single rate of $2.60 per $1,000 of revenue, a $100 flat tax covering a business’s first $100,000, and a new $100,000 total cap. True North Research surveyed 459 likely November voters in late June and reported the measure was feasible. Support started at 59 percent and, after voters heard arguments for and against, settled at 64 percent — comfortably above the simple majority a general tax needs to pass. 

Pollster Tim McLarney told the council the measure drew unusually even support across party lines. At the first test, he said, it was favored by roughly two-thirds of Democrats, about half of Republicans, and 57 percent of independents.

“That spread of 48 to 66 is actually smaller” than he typically sees, McLarney said, attributing the narrow gap partly to a tax that individual voters would not pay themselves and partly to its fairness framing.

That framing became the evening’s central argument. Mayor Joe Franklin repeatedly pressed whether a single rate applied to businesses with very different profit margins is genuinely fair. Equity, he noted, was a word that “pops up a lot,” but “I’m not quite sure how equitable this really is.” Pointing to a homebuilder whose costs consume most of a large contract, he said: “To me, patently, it just seems unfair.”

Jon DiCristina, the city’s special counsel on the measure, told Franklin that taxing net income instead of revenue “does get you into a legal gray area” and “administratively it’s a nightmare for cities,” which is why nearly every California city taxes on revenue. A city could tax by other yardsticks — rooms, square footage, employees — but that only rebuilds the category-by-category system the overhaul is meant to retire.

“There’s no … best answer here,” DiCristina said. “There’s only what you feel is best for your community.”

The dispute turned in part on who counts as a local business. The tax rolls include roughly 5,245 businesses, and contractors and subcontractors are the largest share by far — about 2,500 of them, or nearly half, many based outside the city. Retail accounts for 738 businesses, about 14 percent; commercial property owners for 212, about 4 percent; and restaurants for 141, close to 3 percent. The balance is spread across professional offices and other service businesses. Councilmember Steve Charelian pressed the point with the pollster: those contractors, he noted, are “built into the 75%” of businesses the measure would supposedly help, though many are out-of-town firms that only do work in Manhattan Beach.

Business owners who spoke made the same case. Mike Zislis, who operates hotels and restaurants in the city, said several of the proposals would sharply raise what he pays — and he rejected the measure’s central promise that most businesses would pay less, because so much of that relief, he argued, flows to contractors who aren’t based in town. By dropping the flat rate from $313 to $100, he said, “you have just given a subsidy to every outside business, who should pay more,” when the break belongs to “our businesses in the downtown.”

“This doesn’t feel like a cleanup of an ordinance,” Zislis said. “Sometimes it feels a little bit like a money grab.” He urged the council to name a revenue target, keep the tax close to what it collects now, and audit the results over two or three years.

Kelly Stroman, executive director of the Downtown Business and Professionals Association, said businesses had favored other models from the start and were “very unhappy” with the polled version. Its replacement, she said, was welcome. “Model 4,” she said, “is a little ray of sunshine.”

But Jill Lamkin, CEO of the Chamber of Commerce, said Model 4 comes with a catch. “I also preferred 4 from the very beginning,” she said, “but … think back to what Mike was saying earlier in terms of the rate per 1,000 — this is the highest rate again. So we’re back at a much higher rate here.” Model 4 sets a $2.80 rate for most businesses, higher than the $2.60 the council polled, though it carves out a lower $2 rate for a broad “general retail” group that includes retail stores, restaurants and hotels.

Property owners raised a separate objection. Because the city taxes a commercial landlord on rental income and separately taxes the tenant business on its own sales, some argued the same activity is taxed twice. Staff rejected that, describing landlord and tenant as two separate business entities rather than a duplicate tax on one license. One property owner, Ray Joseph, was unconvinced. “It’s not double taxation,” he said. “It’s far more than that … it’s just layer on top of layer on top of layer.”

Mayor Pro Tem Nina Tarnay, who said the current tax leaves “our smaller businesses … bearing a significantly higher percentage” than the largest ones, moved to send the Model 4 structure forward with the $100,000 cap intact and a commitment to revisit the rate within two years. Councilmember Amy Howorth seconded, and it passed 5-0.

The model the council chose is projected to raise less money than the one it polled. Staff estimated Model 3 would generate about $816,000 in new revenue; the Model 4 structure the council adopted was pegged at about $552,000 — roughly $264,000 less. Lesser leaned on that gap to answer the criticism.

“Some have alleged that we’re doing this because we’re doing a money grab, but in fact … this was about fairness, this was about getting greater simplicity,” Lesser said, noting that the additional revenue under Model 4 is “not as great as the Model 3 that we began the evening to discuss.”

The switch carries a risk. The poll tested Model 3, not Model 4. McLarney said the council had flexibility “within certain bounds … as long as what you consider has the same basic parameters.” Charles Heath, the city’s ballot-measure consultant, was more blunt. “The more we deviate from those big picture concepts, the less reliable our polling becomes,” he said. 

Charelian pushed to lower the cap to $75,000 to ease the burden on the largest taxpayers, but Franklin and Howorth countered that the businesses reaching the cap are the biggest in town, not the small ones the overhaul aims to protect. The cap stayed at $100,000.

The real estate taxation question has its own history. The tax applies to independent agents under the code, but in 2010 — “on the heels of the Great Recession,” as staff put it — the council directed that they not be  licensed. Staff’s current review reached the same legal conclusion it did then: there is no basis to keep exempting agents who file as self-employed, and continuing to do so “could be perceived as preferential treatment.” Howorth pushed to reverse the old policy and “true things up,” but the council held the question for August 4 as well.

Whatever the council adopts that night — its last meeting to place the measure on the November ballot — will need at least four of five votes before it reaches voters, and a simple majority of voters for the measure itself to pass.

Tarnay framed the vote as a handoff. The final reckoning, she said, will belong to voters. 

 “This is something that we are not making a decision on,” she said. “My motion is so that the public gets to consider and make the final decision.” ER