The $321 billion spending plan is expected to go before the Legislature for approval later this week, ahead of the July 1 start of the fiscal year. With health care costs rising faster than expected, the state economy battered by new tariffs and further federal funding cuts looming, officials confronted a $12 billion shortfall that has forced difficult conversations about California’s spending.

Officials did not formally announce the deal as they continue to haggle over the details of a provision that could streamline construction of housing projects near public transit and denser development in cities. Newsom demanded the language, which has encountered resistance from the state Senate.

“We appreciate the strong partnership with the Legislature in reaching this budget agreement,” spokesperson Izzy Gardon said in a statement. “The Governor’s signature is contingent on finalizing legislation to cut red tape and unleash housing and infrastructure development across the state — to build more, faster.”

Though the Legislature already passed its own version of the budget earlier this month to meet a constitutional deadline, it relied more on borrowing and less on program cuts than Newsom, who sought to reverse course on recent major expansions of subsidized health care in order to stabilize California’s long-term finances.  

The budget agreement foregoes or delays many of his proposals. Legislative leaders argued against prematurely kicking people out of a vital safety net as they search for other solutions to address a persistent revenue gap that is projected to reach more than $20 billion annually in the coming years.

With officials ultimately agreeing to fewer spending reductions — reflecting a hope by many legislators that California’s economy will eventually rally — the state will pull about $7 billion out of its rainy-day fund and $6.5 billion from other cash reserves to balance the budget next year.

Nevertheless, the plan freezes enrollment by adults without legal status in Medi-Cal, the state’s health insurance program for the poor, starting in January. After California finished gradually opening up the program to that population last year, more new patients enrolled than expected, contributing to about $6 billion in cost overruns that required an emergency appropriation to Medi-Cal this spring.

The budget deal also eliminates dental coverage for those who remain enrolled, starting in July 2026, and creates a $30 monthly premium for undocumented Medi-Cal patients between the ages of 19 and 59 that will take effect in July 2027.

But it rejects the governor’s proposed cuts to their long-term care benefits, as well to overtime pay for home health aides and funding for reproductive health providers, and does not reinstate a strict asset test that could have pushed thousands of newly eligible older and disabled Californians off of Medi-Cal again.

Public transit agencies and the University of California and California State University also avoid funding cuts under this spending plan, though some of the money for the university systems is deferred and they will be required to take out zero-interest loans from the state’s general fund in the meantime. The deal includes $45 million to help the struggling Sonoma State University, in Senate President Pro Tem Mike McGuire’s district, to turn around its financial woes. 

Housing, homelessness retain funding

The Legislature successfully pushed to keep $620 million in grants and loans for affordable housing construction and $500 million to support local homelessness services, and to add $100 million in one-time funding for counties to begin implementing Proposition 36. Local government and law enforcement agencies have argued they need far more help to enforce the measure, which was overwhelmingly approved by voters last fall to increase penalties and mandate treatment for certain drug crimes. Newsom remains opposed to that approach, which he contends would return California to an era of mass incarceration.

The budget deal maintains his proposal to close a fifth state prison by next October, which could save an estimated $150 million annually, and more than doubles the size of California’s film and television tax credit to $750 million, another gubernatorial priority as production flees the state.

The plan also relies on other internal fund shifts, including directing $1 billion raised from greenhouse gas polluters through cap-and-trade auctions to pay for firefighting and vegetation management projects. Some lawmakers had objected to using money intended to address climate change this way.

The fate of that cap-and-trade system, which Newsom had proposed to reauthorize through the budget, and his controversial push to fast-track the Delta tunnel are among several significant policy questions left unresolved in the agreement. They could still be addressed in follow-up budget bills in the coming weeks or through the regular legislative process by the end of the summer.

The governor also has yet to agree to a legislative proposal to lend up to $1.75 billion to local governments in Los Angeles and San Francisco Bay Area transit agencies dealing with their own budget crunches.

And all of this could be revisited again later this year or early next year as California warily eyes a major federal tax bill, still being negotiated in Congress, that could result in deep cuts to health care and food aid funding. Liberal state legislators and advocacy groups are turning up the pressure to raise state taxes to offset those losses, something Newsom has previously vehemently opposed.

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The budget lawmakers approved is not the state’s final spending plan. Newsom and legislative leaders are still negotiating how to fix the shortfall before the start of the new fiscal year on July 1. But lawmakers had to pass a balanced budget by Saturday or else they would forfeit their six-figure salaries — a rule voters approved in 2010 to prevent the types of budget stalemates that had delayed negotiations in the past.

That is why Thursday’s vote was not really a public rebuke of Newsom, a Democrat who for the most part has had a good relationship with a Legislature dominated by members of his own party. Instead, the vote highlights the differences between Newsom, a second-term governor who many believe holds presidential aspirations, and a liberal state Legislature that is often more willing to take risks.

While Newsom’s budget proposal preserved most of the state’s major assistance programs, he included a number of smaller cuts that angered his Democratic allies. He proposed to stop paying for in-home caretakers for some disabled immigrants on Medicaid. He wants to eliminate a program that helps provide housing for families with incomes less than $13,000 per year. And he suggested delaying a rate increase for organizations that care for people with intellectual disabilities.

To reject these cuts, lawmakers needed to find more money. They found it by taking one of Newsom’s ideas and making it happen faster.

Newsom proposed temporarily stopping some businesses from deducting financial losses from their state taxable income, thus increasing their tax bill. It has become a common way to increase revenue during budget shortfalls. The Legislature chose to do this, too, but their plan would start the tax increase one year earlier. That generated an extra $5 billion in revenue compared with Newsom’s plan.

Lawmakers also found large budget cuts in other places. They want to cut $1 billion out of the state’s prison budget, arguing the money isn’t needed now that the prison population is about half of what it was two decades ago. And they want to cancel a $400 million loan to PG&E that would help extend the life of the Diablo Canyon nuclear power plant.

Those are just some of the disagreements that the Newsom administration and lawmakers must resolve by the end of the month. On Thursday, both sides indicated they have made good progress. Senate President Pro Tempore Mike McGuire said lawmakers could be voting on a final budget deal by the end of next week.

“I firmly believe the final budget that we’re going to have in front of us here next week will follow the same framework that’s in front of this body here today,” he said.

One major issue that has yet to be addressed by either side is what to do about a minimum wage increase for health care workers that is scheduled to start on July 1. Newsom signed a law last year that would eventually raise health care workers’ minimum wage to $25 per hour over the next decade.

The wage increase is expected to cost the state hundreds of millions of dollars in increased wages for some state workers and increased payments in the state’s Medicaid program, according to an analysis by the University of California-Berkeley Labor Center. Newsom has said he wants to delay the minimum wage increase, but he so far has been unable to get an agreement from the state Legislature.

Republicans, who don’t have enough numbers to sway policy decisions and say they were left out of the budget negotiations with Democrats, criticized the Legislature’s spending plan as unsustainable.

Republican Assemblymember Heath Flora said raising taxes on businesses to help close the deficit would be “an economy killer,” adding “our citizens are not here to provide overdraft protections.”

“We can’t continue to make up the lie that tax increases are a solution to bad management,” he said.

Democratic state Sen. Scott Wiener defended the tax proposal, noting it was just seven years ago that Congress slashed the federal corporate tax rate by 40%.

“All we are asking here during a difficult budget year is to be part of the solution,” Wiener said. “This is a very reasonable approach.”

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