More than half of US states are using record budget surpluses to fund their biggest collective tax break in decades, risking future revenue shortfalls to help residents combat inflation and make some long-sought cuts.
Almost two dozen states slashed personal or corporate income-tax rates in the past two years and more than a dozen enacted temporary relief in 2022. Democratic governors often opted for tax holidays and one-time rebates, while many Republican leaders cut rates for good, usually for the highest brackets.
Those changes amount to $15 billion in total cuts for fiscal year 2023, according to a survey of governors’ proposals by the National Association of State Budget Officers.
The association said the plans, if enacted as is, would produce the largest reduction in revenues since the survey began in 1979. While higher-than-forecast tax collections and a massive influx of federal pandemic aid have left states flush with cash, analysts warn that permanent tax cuts could cause financial problems as the economy slows and inflation persists.
“Both parties have now kind of gotten on the bandwagon, and the revenue picture for the moment supports it,” Michael D’Arcy, director of US public finance at Fitch Ratings, said of the tax-reduction spree. “The question is: What will the longer term shake out be?”
Widespread tax breaks in the nation’s statehouses stands in contrast to what’s happening in Washington, where the Federal Reserve is trying to tamp down inflation by raising interest rates to pull money out of the economy. The US Senate on Sunday passed a new minimum tax on corporations and a levy on stock buybacks, both part of a plan to spend $437 billion over a decade on incentives for renewable energy projects and electric vehicle sales.
The state-level largesse is being financed by a broad-based jump in tax collections in the wake of the pandemic. General fund revenues in the last fiscal year soared higher than expected in 49 states, according to the NASBO report, and many are coming off a strong decade of padding their rainy day funds.
Florida, for example, ended FY 2022 with a record $21.8 billion surplus, the governor’s office announced in July. Kentucky reported 14.6% growth -- the highest rate in three decades -- and its second-highest surplus ever, surpassed only by FY 2021.
“States are better prepared to weather the next five years than they’ve ever been prepared to weather a downturn in history,” said NASBO executive director Shelby Kerns at an Urban Institute panel last month.
Some analysts caution that swelling revenues are the result of temporary distortions: record stock market performance in 2021 drove up income-tax collections, and federal stimulus money spurred consumer spending while providing state and local governments with hundreds of billions of dollars in aid. While the picture remains strong for now, there are already signs the golden era of state fiscal health may be ending.
California is likely to see revenue from its three major tax sources fall short of forecasts this fiscal year, according to a post last week by Deputy Legislative Analyst Brian Uhler. At the local level, New York City’s estimated personal income-tax payments in June declined to the lowest level since 2017.