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Five things you need to know about the new state revenue “surplus”

wb-512A [1]

Despite the “April surprise,” NC’s fiscal fundamentals remain grim

There’s been a great deal of back and forth inside the Raleigh beltline in recent days about the state revenue surplus that state leaders announced last week [2].

To the hardliners on the Right, the fact that state revenues for the current fiscal year that ends next month look now as if they will come in around 1.9% above what has been projected last summer is seen as divine validation of the 2013 tax “reform” package. Indeed, to members of the state Senate leadership, the new projections were reason enough to crow about their supposed triumph over “chicken littles on the left.”

In contrast, some progressive critics have attempted to push the message that the surplus is directly attributable to the Great Tax Shift that accompanied the 2013 reforms. In this narrative, the fact that the 2013 changes effectively raised taxes on millions of households by doing away with some deductions and expanding the number of transactions subject to the sales tax is all one needs to know. Put simply, conservatives have surreptitiously raised taxes on working folk and thereby padded state coffers.

Both of these takes are too simplistic. While the Right is way off-base in drawing such a triumphal conclusion from what really amounts to a minor, short-term bump in state revenues that features several more plausible explanations, some progressives err in confusing causes and effects.

Here, therefore, with a little help from the fiscal policy experts at the North Carolina Budget and Tax Center (BTC) [3], are the five things that everyone serious about understanding the North Carolina fiscal policy debate needs to know about the surplus:

#1 – The surplus is not a huge surprise or especially significant.

Every year, economists in the Fiscal Research Division of the General Assembly and the Office of State Budget and Management (i.e. the office Art Pope used to run) do their best to project state revenues for the coming fiscal year. The projections are, in effect, educated guesses based on a variety of assumptions. Recent projections have been made especially complicated by the numerous tax policy changes that have gone into effect. Many other state fiscal offices around the country have also had difficulty in making projections in the rapidly-changing U.S. economy.

To make sure they don’t confront the problem of having revenues come in lower than expenses in such an environment, officials regularly offer conservative projections which assume that revenues will be on the low side. That’s what happened in North Carolina for the current fiscal year: economists in Fiscal Research and the budget office readily admitted from the outset that they were offering conservative projections. Happily, as has happened numerous times in the past, they were slightly off and the state received a modest “April surprise.”

#2 – The surplus is not the result of the 2013 tax shift somehow spurring magic growth in the state economy.

As even Pope himself has confirmed in recent days [4], there is no evidence that the aggressive tax cuts enacted in 2013 on profitable corporations and wealthy individuals somehow brought about the surplus by spurring extraordinary economic growth.

To the contrary, the data show that the surplus was primarily the result of the national economic recovery and, in particular, a bump in income tax revenue from taxpayers who cashed in on capital gains and other assets from business income.

North Carolina is also far from the only state to have gotten good revenue news of late. California has. Arizona has. Minnesota has. This makes sense as the national economic recovery has been picking up steam in some areas – particularly among the well-off. Moreover, none of those states was afflicted with the kind of tax cut fever that has gripped North Carolina in recent years. Minnesota actually raised taxes on the wealthy – a move that has generated significantly more money for core services.

#3 – The tax shift didn’t “cause” the surplus directly either.

The “reforms” of 2013 ultimately cut taxes on profitable corporations and people at the top but raised them on many people in the middle and of modest means. Especially in light of the recent uproar surrounding tax deductions and refunds (income tax refunds fell two times faster than projected — the biggest drop in decades), it’s not surprising that some progressives are led to the conclusion that the 2013 reforms “caused” the surplus.

BTC experts, however, believe this conclusion is not supported by the data either. While it’s obviously true that revenues are whatever they are because of the tax laws on the books, the BTC experts caution that it’s important not to attribute the surplus itself directly to the tax shift. Instead, as noted above, the bump in collections appears to be attributable to higher-than-expected capital gains and business income declarations. This point is also consistent with another phenomenon that is confirmed by the data and the observations of millions of average people – i.e. that the overwhelming majority of income growth in the country continues to accrue to the wealthy.

#4 – Revenue is still falling well short.

The Minnesota example [5] mentioned above serves to raise another important point about North Carolina’s situation – namely, that the state would have significantly more revenue to fund essential services like education, health care, courts and public safety and environmental protection if it had not enacted the 2013 tax cuts. The BTC still confidently estimates this figure at around $1 billion.

Indeed, if North Carolina still took the same share of total state income in taxes that it did prior to the Great Recession, revenues would be $3.2 billion above current levels. Just imagine how much better equipped the state’s core services would be today with such a sum.

While certainly better than nothing, the $400 million surplus obviously pales in comparison. It’s not even enough to cover enrollment growth for one year in our K-12, higher education and health care systems – much less provide raises or attack other service shortfalls. Add to this the likelihood that most of the windfall is likely to be in the form of one-time, nonrecurring money and the picture grows even more sobering.

The bottom line here: Sure, the state will bring in slightly more than was expected this year, but that doesn’t make either the projection or the actual figure close to adequate.

#5 – Things are about to get much worse.

If there’s a most perverse aspect of this whole story, it is that the surplus will, under the 2013 law, trigger yet another round of corporate income tax cuts. These will kick in at the cost of around $100 million in the coming fiscal year and $350 million the year after that. In other words, the surplus hasn’t made things any better; it’s simply given further impetus to the push from hardline conservatives to completely eliminate corporate and personal income taxes. Like some destructive, real life Escher [6]image, the negative, self-fulfilling spiral will continue apace unless lawmakers slow down and honestly reassess the direction in which they are dragging the state.

Going forward

What the political fallout from all of this will be is anyone’s guess. Some, like veteran political observer Gary Pearce [7], are skeptical that voters will really understand or care about the surplus issue that much come 2016.

Voters will vote – focusing mainly on President and Governor – based on who they believe can best manage the overall economy.

Raleigh-centric debates about surpluses and deficits aren’t likely to get many toes tapping.”

He may be right.

But that doesn’t absolve all who care about state government and its critical mission in modern North Carolina from doing their best to spread the truth far and wide. Let’s get to work.