San Jose faces up to a $65 million shortfall. Could a hotel tax increase improve the city’s finances?

Faced with a potential budget shortfall of up to $65 million, San Jose is weighing a ballot measure to raise hotel taxes, as the city needs an infusion of cash to fund critical services amid stagnating revenue.

Over the past two decades, San Jose has resolved more than $800 million in shortfalls primarily by slashing services and reducing its city workforce, earning it the distinction of having the lowest number of full-time employees per capita among the state’s largest cities.

With the local economy still sluggish and other revenue streams underperforming, city officials argue the transient occupancy tax from 10% to 12% would add $10 million in annual recurring revenue without negatively impacting the hospitality industry.

Initial polling conducted by Fairbank, Maslin, Maullin, Metz & Associates, Inc. found that 55% of likely voters would support an increase, with another 12% undecided.

San Jose’s current overall tax rate is lower than most of its peers, with the city ranking 76th among the top 150 urban centers in the country for the highest lodging rate, according to a study released by HVS Global Hospitality Services.

“While the community can take pride in the City as a lean organization, additional ongoing resources are needed to meet the increased scale and complexity of the community’s needs,” Assistant City Manager Lee Wilcox wrote in a memo to the City Council recommending the ballot measure, noting that the council has repeatedly asked staff to explore options to generate more revenue.

San Jose’s need to boost its revenue comes at a time when the city already has been forced to rebalance this year’s finances.

After navigating a $36 million shortfall during last year’s budget, a mid-year report released last week showed the city expected general fund revenues to be $15 million to $20 million below expectations for this fiscal year, which ends in June.

The most significant drivers of the gap this year were lower property and utility taxes, which led to an estimated $15.35 million in less revenue.

Along with a limited hiring freeze, the city may reduce or cut some previously approved services to offset its financial woes.

Proposed cuts include $2.6 million for the police training center and $700,000 for the relaunch of the fire department’s Med 30 unit, which previously provided drug oversight for its emergency medical services.

San Jose’s budget woes could also affect funding for immigration legal services, despite heightened tensions stemming from Immigration and Customs Enforcement operations nationwide. While the city initially allocated $1 million in this year’s budget, it left open the possibility of increasing the amount to $1.5 million. However, in a memo to the City Council, budget director Jim Shannon did not recommend an increase due to insufficient funding.

At the direction of the City Council, the city administration has explored other potential tax or bond measures to boost revenue in the past few years as it faces a substantial infrastructure backlog. But it has generally pulled back on pushing forward with recent ballot measures due to lukewarm public support.

For example, in addition to a sugary beverage tax, parcel taxes have been considered on multiple occasions to generate revenue for the city’s park system, which faces a backlog of more than half a billion dollars, but city officials withdrew that idea after polling data showed it would struggle to pass.

City leaders, however, say a lodging tax would be more palatable for voters and successful at the ballot box as the financial burden would largely fall on tourists.

A general transient occupancy tax increase would only need a simple majority to pass.

“The (city’s) analysis found that San José’s (transient occupancy tax) rate is much lower than other jurisdictions,” Communications Director Carolina Camarena said. “Even with the potential increase, San José would remain competitive with other cities.”

In the recent polling, residents sampled were told that the additional revenues would be used to fund essential city services such as police and fire emergency response, addressing homeless encampments impacting parks, neighborhoods, and waterways, removing trash, illegal dumping and graffiti and maintaining playgrounds, recreational facilities, park restrooms and trails.

City staff also noted that academic research from the Brookings Metro indicated the hotel tax increase was unlikely to affect occupancy.

Even when factoring in other costs besides the hotel taxes passed on to customers, San Jose was on the lower end. For example, many hotels in the city belong to the Convention Center Facility District, which levies an additional 4% room tax to fund the rehabilitation and expansion of the convention center. Some hotels are also subject to a per-room assessment as part of the Hotel Business Improvement District.

Altogether, city officials estimated that San Jose’s current overall hotel tax rate is between 14.5% and 15.1%. Even so, it is still less than most of its counterparts. The effective tax rate for cities like San Diego, Anaheim, Los Angeles, Oakland and San Francisco ranged between 15.75% to 17.5%.

The city must decide by March 6 on whether to place the tax measure on the June 2 primary election ballot. If passed, the tax increase would go into effect Oct. 1.

San Jose Chamber of Commerce President and CEO Leah Toeniskoetter said her organization has yet to take a position on the tax, but will analyze how new revenue measures fit into the city’s overall approach and whether new taxes are paired with efforts to control costs, improve efficiency, and grow the economy over time.

“Our members will want clarity on how the additional revenue would be used, particularly given that the proposed increase would flow to the city’s general fund,” Toeniskoetter told The Mercury News. “While the City has outlined intended priorities, understanding accountability, transparency, and measurable outcomes will be important. Second, we will closely evaluate the impact on the hospitality and visitor economy, which continues to face recovery challenges, especially downtown.”