Some underling and troubling trends are revealed in the Fiscal Research Division’s newly released third Quarterly General Fund Revenue Report, which provides an assessment of revenue for the state. Not much has changed since the Division’s second quarterly report. Both reports foreshadow some of the particular challenges of the new tax plan—namely the fact that tax rate reductions for profitable corporations will be big revenue losers for the state.
On net, the General Fund was $12.1 million above the $14.5 billion revenue target for the first-three quarters of the current fiscal year that ends in June 2014. This marks a reduction from the $83 million point-in-time “surplus” that accrued by the end of the second quarter. The gap could shrink even further by the end of the month depending on any volatility in revenue collections post-tax season—a factor dubbed as the “April Surprise.”
Revenue collections were ahead of target by the end of the third quarter largely due to stronger-than-expected performances by the sales tax and the corporate income tax on net. As the economy has slowly improved, sales tax collections have held steady and corporate profits have been on an upward trend. Net collections from the corporate income tax were ahead of target by nearly $90 million. Collections were also boosted by a one-time $16 million bump in collections from the Estate tax—which was eliminated in the new tax plan.
The new tax plan, however, diminishes the ability of corporate income tax collections to contribute to public investments and support revenue recovery after a downturn in the future. The plan reduces the corporate tax rate from 6.9 percent down to as low as 3 percent, assuming certain revenue targets are met. Even if the targets aren’t met, the rate will automatically drop to 5 percent in 2015, causing the state to lose an estimated $374.2 million annually by the 2018 fiscal year. This means that the state is set to lose even more if the rate drops further from a 5 percent rate to a 3 percent rate.
Gains on the corporate side were dragged down by lower-than-expected personal income tax collections—specifically, by a troublesome weakness in wages and salaries. Withholding income on wages and salaries “declined significantly” during the third quarter due to the new withholding schedule. Employers in the state are required by law to withhold a portion of their employees’ wages for personal income taxes. Because the new tax plan flattens and lowers the personal income tax and makes changes to the standard deduction, employers are now using a new withholding schedule to estimate the amount of taxes to withhold.
The poor performance in withholding collections was offset in-part by higher-than-expected final tax payments from taxpayers and lower-than-expected refunds. Once factoring for both withholding collections and payments, personal income tax revenue came in below target by nearly 2.8 percent, or $221 million. This is roughly equivalent to filling the state’s pre-kindergarten waiting list, paying for the thousands of teacher assistants that lost state funding this school year, keeping the salary supplements for teachers with advanced degrees, and avoiding the tuition increase at community colleges over the next two years.
The weakness in withholdings from wages and salaries are still a cause for concern. Certainly the state’s persistent and deep jobs shortage and the boom in low-wage jobs are two factors that aren’t making it any easier to meet revenue targets. And here again, the state is and will continue to collect far less through the personal income tax moving forward than otherwise would have occurred due to the rate reduction implemented on January 1.
It’s not surprising then that the tax plan adds another layer of “uncertainty.” Estimated income tax payments in the current fiscal year will be impacted because the tax plan broadened the tax base—by eliminating the cap on charitable contributions, for example—and lowered the rate. New changes to taxpayers’ withholding amount is also contributing to uncertainty. All told, in the current fiscal year, the tax plan is expected to reduce available revenue by $86.6 million—a number that balloons to nearly $650 million once fully implemented.
Fiscal Research Division’s latest revenue outlook only further confirms that the state’s economic and fiscal outlooks are intertwined. The ability to collect revenues is directly related to the conditions in the economy—businesses earning strong profits and workers continuing to earn—as well as policy decisions. With the new tax law, policymakers have undermined the state’s ability to collect revenue and invest in the foundations of a strong economy, at a time when the economy continues to fail to deliver for workers.