State Tax and Revenue Outlook: The Bad, the Bad & the Ugly

1. State Tax and Revenue Outlook: The Bad, the Bad & the Ugly Scott Mackey Kimbell Sherman Ellis COST Tax Policy Conference Washington, DC November 19, 2002

2. Overview of Remarks • Observations about current state outlook • Current situation vs. 1984 and 1991 • Highlight some key states • Conclusions about likelihood of business tax hikes next year

3. State Fiscal Outlook • A revenue problem – unprecedented and unanticipated • Rainy day funds & gimmicks are mostly gone • But – it’s not as bad as you read in the papers – 50% rule

4. Current Situation vs. Prior Fiscal Crises: Similarities • 1984 and 1991 saw large, widespread tax increases throughout the country after “gimmicks” were exhausted in prior years • Program expansions and spending increases compounded the problem when revenues declined

5. Current Situation vs. Prior Fiscal Crises: Differences • Major cause of shortfall is fundamentally different – capital gains revenues will not rebound as quickly • More Republican control, and today’s Republicans more ideologically anti-tax • More institutional restrictions on legislatures

6. Factors Favoring State Tax Increases on Business • Magnitude of the problem – structural, not cyclical • No quick fixes • Business “image” problem • New governors and legislative leaders

7. Factors Opposing State Tax Increases on Business • Republican control of more states • Institutional restrictions on tax increases • Continued concern about economic development • Voter rejection of ballot measures in some states makes policymakers wary of tax hikes

8. Wildcards • Property taxes – will avoidance of state tax increases shift education funding onto the local property tax • Intangible factors – personalities of governors and legislative leaders, underlying political factors

9. Projected FY03 Shortfalls Shortfall > 10% Shortfall 5% - 10% Not reporting Source: NCSL

10. Five State Examples • CA, CO, FL, MA & OR • Illustrate how politics, tax structure and institutional factors will determine whether tax increases will be used to plug budget gaps

11. California Outlook • $13 billion shortfall on $77 billion budget • $11 billion in capital gains $ vanished • Extensive use of borrowing & one-time revenues in 2002 • Most of 2002 tax increase on business (NOL suspension = $1.2 billion on ‘03)

12. California • Constitutional earmarks for education • Democrats control both houses, but Governor is very unpopular • Need 2/3 majority to raise taxes – need Republican votes • No help from Washington

13. Colorado Outlook • High tech state with significant job losses, plus drought and fires in 2002 • Revenues off 15% • Already cut $550 million on $6.5 billion base, not need additional $350 million • New ballot initiative passed by voters requires 1% growth in education aid

14. Colorado • Republican governor and legislature • TABOR amendment – need voter approval for all tax increases, and earliest that could happen is Nov. 2003

15. Florida Outlook • No income tax, so not hit as deeply as states reliant on income tax • Substantial tax cuts in last 5 years, some of which have been delayed (intangibles)

16. Florida • Complete Republican control • Split within Republican party – anti-tax wing dominates House vs. pragmatists in Senate

17. Massachusetts Outlook • State very reliant on income taxes from high tech economy • $1.1 billion in tax hikes in 2002 (personal income and cigarette taxes) • $1 billion budget cuts were unpopular

18. Massachusetts • New Republican governor, but House and Senate both have veto-proof majorities • Another $2 billion shortfall for FY04

19. Oregon Outlook • No sales tax, reliant on income tax • $1.7 billion revenue shortfall on 2 yr. 04/05 biennium (on a $10 billion base) • Cut $500 million in expenditures in 02 special sessions

20. Oregon • Split legislative control with Democratic governor – could not agree, sent to voters • Jan. 28, 2003 referendum – if voters approve, PIT and CIT rates increase through 2005 ($700 million increase). If voters reject, $700 million in education and health care cuts

21. Oregon • Abrogation of legislative & executive authority • Split state reflects nation – Democrat won governor’s race 48%-47%, legislature went Republican • Good gauge of whether voters have stomach for stomach for “real” spending cuts

22. Takeaways • Generalizing state actions for ’03 is difficult due to diversity of the states • There will be significant tax increases in 2003 • Playing the economic development card will be effective in some states • Don’t forget about property taxes

23. For more information: Scott Mackey Kimbell Sherman Ellis 26 State Street, Ste. 8 Montpelier, VT 05602 802/229-4900 X 109 www.kse50.com Mackey@kse50.com State government & public relations Monitoring of state legislation and regulations