Tax Insanity in the Golden State
California's Wealth Tax Proposal is Unconstitutional, Unworkable, and Economically Illiterate
California has a recurring habit of dreaming up legislation that sounds righteous at a cocktail party in Pacific Palisades but falls apart the moment you expose it to scrutiny. The latest iteration of this tradition is the proposed California wealth tax, a scheme that would impose an annual levy on the net worth of the state’s wealthiest residents. In some versions, people who have already left California. Like most policies coming out of California, it is bad constitutionally, bad economically, and bad policy.
The constitutional problems are not subtle. The U.S. Supreme Court addressed the question of apportionment in Moore v. United States (2024), and while the Court did not rule categorically on wealth taxes, it made clear that taxing unrealized gains raises serious constitutional questions under the Sixteenth Amendment. The Sixteenth Amendment authorizes Congress to tax “incomes.” Wealth is not income. Appreciation on an asset you have not sold is not income. Taxing the theoretical value of a stock portfolio, a business interest, or a family farm that has not generated any cash is taxing something that, constitutionally speaking, is not a realized gain. The Court has been saying variants of this since Eisner v. Macomber in 1920. California does not get to redefine what “income” means because Sacramento is running a deficit thanks to decades of fiscal mismanagement.
The exit tax provision, included in some versions of the proposal, makes the constitutional problem dramatically worse. The idea is that if you move out of California, the state can follow you by taxing your wealth for years after you’ve established residency elsewhere. This is not a novel legal theory, but a novel legal fantasy. States cannot tax former residents on income or wealth accumulated after they’ve departed. The Commerce Clause, the Due Process Clause, basic principles of state sovereignty, and common sense all stand in the way. Courts have struck down similar constructs before. The drafters of this proposal know this, or should. The exit tax is less a serious revenue mechanism than a political statement: we see you fleeing, and we are furious about it.
The economics are, if anything, worse than the constitutional law.
Wealth taxes have a miserable track record internationally. A dozen European countries, such as France, Sweden, Germany, the Netherlands, and Austria, experimented with them over the past several decades. Most repealed them. The French impôt de solidarité sur la fortune produced exactly the outcome economists predicted: capital flight, administrative chaos, and revenue far below projections. France eventually scrapped it in 2017. Sweden abolished its wealth tax in 2007. The pattern is consistent enough that even left-wing economists have soured on the instrument. The revenue yield is lower than expected; the distortions are larger.
The core problem is liquidity. Wealth taxes apply to net worth, but net worth is frequently illiquid. The founder of a successful private company may be worth $50 million on paper and have $200,000 (or less) in cash. A wealth tax does not care about such trivialities. It demands payment annually regardless of whether the underlying asset has generated any income. This forces asset sales, often at bad times and of productive assets. This distorts investment behavior. Businesses get restructured not for productive reasons but for tax avoidance reasons. That is not a positive outcome for California’s economy.
California’s version of this problem is especially acute because California’s wealthy are disproportionately concentrated in technology and venture-backed businesses. These asset classes are notoriously illiquid until exit events that may be years or decades away. A wealth tax is uniquely punishing for exactly the kind of early-stage risk-taking and long-duration investment that produced the companies California has spent decades bragging about.
And after all of that, there is the obvious behavioral response. California’s top marginal income tax rate is already 13.3 percent, the highest in the nation. The state has been losing high-income residents to Texas, Florida, and Nevada for years. That trend accelerated sharply after 2017, when the federal SALT deduction cap made California’s already-high taxes even more painful. Adding a wealth tax does not reverse this trend, but turbocharges it. The people most subject to a wealth tax are, by definition, the people with the most resources and flexibility to relocate. They have accountants. They have lawyers. They have options. Elon Musk didn’t relocate his businesses to Texas in a vacuum, after all.
The proponents of this cockamamie tax scheme will tell you that the proceeds will fund education, housing, or climate programs. As liberals often do, this presupposes that the revenue was certain, the constitutional challenges surmountable, and the behavioral responses negligible. None of this is true. The revenue estimates embedded in wealth tax proposals consistently assume that taxpayers will simply comply and stay put. That’s neither how human beings nor capital markets work.
California has real fiscal challenges, which have been caused by decades of policy debacles, often ones generated by California’s initiative process like this proposal. It has chronic problems with housing costs, homelessness, and infrastructure that require serious policy responses. Such a wealth tax will be enjoined by federal courts before it generates a dollar of revenue. A wealth tax will trigger a fresh wave of capital and taxpayer flight. And a wealth tax has been tried and abandoned by most of the developed world. This is not a serious policy response, but merely a gesture. An expensive, legally incoherent, economically damaging gesture.
California can do better. That it never does speaks volumes about the state’s political climate and economic future.