Kabateck Strategies

Democratic-Led States Let Their Federal Unemployment Debts Linger

John Kabateck, California director for the National Federation of Independent Business, said the state should do more to pay down the debt while it has the money, before an economic downturn potentially causes tax revenue to fall.

Despite sitting on surpluses, California, New York, Illinois and Connecticut allow fees to rise for businesses as they spend money on other programs

At least four Democratic-led states with budget surpluses this year have chosen not to fully repay the federal government for money borrowed to fund unemployment benefits, a move that will impose increased charges on businesses to help make up the difference.

California, Connecticut, Illinois and New York have directed surplus funds to social programs and taxpayer rebates, among other causes, leaving unpaid debts to the federal government ranging from tens of millions of dollars to more than $15 billion.

If the debts aren’t fully repaid by Nov. 10, as officials in the four states envision, the federal government will start charging $21 per employee annually on all businesses in the states next year. In addition, state taxes on businesses to fund their unemployment programs will go up by varying amounts.

Business groups say the increased charges are unfair, particularly for companies that haven’t laid off employees recently, and unwise as the economy is potentially headed toward a recession. Liberal advocacy groups and Democratic legislators say the public benefits more from money spent on programs like housing and infrastructure, as well as tax rebates, rather than preventing small fee increases on businesses.

Each state administers its own unemployment system. Officials set benefit levels and payroll taxes to fund claims, determining rates based on the system’s needs and how frequently a given employer produces claims. The federal Labor Department oversees systems and gives loans to states when their fund balances run low.

“It’s fine when there isn’t a recession, but once a recession hits and there’s a spike in [unemployment] claims, it leads to the need for this borrowing,” said Audrey Guo, an economist at Santa Clara University in California.

Twenty-two states received loans to cover claims brought on by pandemic-related shutdowns, according to the Labor Department. The amount and duration of the borrowing varied, but the Labor Department reported a peak of $54.7 billion outstanding in April 2021.

Many states are now flush with cash due to the quick economic resurgence and $350 billion in aid included in the 2021 coronavirus relief bill. Sixteen have fully repaid their loans, though New Jersey and Pennsylvania expect to borrow more later this year. Massachusetts and Colorado have made arrangements to pay their debt by November.

The loans accumulate interest, though it was waived for the first months of the pandemic. If a state has an outstanding debt on Jan. 1 for two consecutive years, the federal government withholds an additional $21 per employee annually to pay down the balance, a levy that escalates by the same amount each year. in June.

California was the first to borrow funds, in April 2020, and took out the largest loan. Its balance grew to a high of nearly $24 billion in September 2021.

In negotiations for a budget that took effect this month, Democratic Gov. Gavin Newsom proposed spending $3 billion of a nearly $98 billion budget surplus to pay down its unemployment-insurance debt to the federal government, which currently stands at $18 billion. The Democratic-controlled legislature pared the request down to $1 billion in a budget Mr. Newsom signed in June.

The state plans to reimburse small businesses for the federal surcharge beginning in 2024, according to budget summary documents. Legislators said they preferred this approach to paying down the debt because it gave immediate relief to employers, and legislative officials said California law limits the size of direct appropriations to cover the debt.

John Kabateck, California director for the National Federation of Independent Business, said the state should do more to pay down the debt while it has the money, before an economic downturn potentially causes tax revenue to fall.

“It is not a sexy item to pay down,” Mr. Kabateck said. “But all Californians will bear the brunt of this—especially small employers—if we don’t get it done right away.”

California leaders spent most of the surplus on investments to address the state’s shortage of affordable housing, as well as expanded healthcare for all residents regardless of immigration status, and taxpayer rebates.

Illinois lawmakers approved a $2.7 billion payment in March, but left a $1.8 billion balance. The solvency of Illinois’s trust fund is the joint responsibility of organizations representing employer interests and workers, and representatives of both sides are continuing discussions on a solution, a spokeswoman for Democratic Gov. J.B. Pritzker said.

Connecticut has paid down the majority of its $725 million unemployment debt, but still has about $170 million outstanding. The state this year used its surplus to pay down $3.7 billion of pension debt that has a higher interest rate than the unemployment loan, according to a spokesman for Democratic Gov. Ned Lamont. It also funded a gas-tax holiday and tax rebate checks for families with children.

New York lawmakers entered the 2022 budget season with a surplus of more than $11 billion. They rejected a proposal by business groups to direct $2 billion to pay down the state’s unemployment debt, which now stands at $8.1 billion.

State Budget Director Robert Mujica said New York might pay down the debt if extra revenue becomes available. Democratic Gov. Kathy Hochul signed a budget in April that included $600 million to subsidize a new stadium for the Buffalo Bills and $2.2 billion in property tax rebates. A budget spokesman said the state has directed money to other programs designed to help small businesses.

“We’re going to be at elevated levels of taxes for a decade,” said Ken Pokalsky, vice president of the Business Council of New York State, an employer group.

—Heather Gillers contributed to this article.