Tax Revenues

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					                             ISSUE BRIEF
                               October 26, 2007



     MARYLAND’S UNMET NEEDS AND
   GOVERNOR O’MALLEY’S BUDGET PLAN

Discussion of budget and revenue plans should start with the fact that Maryland
faces two budget crises, not one. Public attention, the media, policy-makers and
many advocates have focused on the growing deficit forecast for the next fiscal
year, and to a lesser extent on the ‘structural deficit’ problem that underlies it.
But there is another budget crisis. Our current budget and our recent budgets
have been badly under-funded.

Both the Governor and the Department of Legislative Services have pointed out
that in Fiscal Year 2005 a smaller portion of our combined personal incomes was
spent on state and local government than in any other state in the nation. Per
capita and household incomes in Maryland rank among the highest in the nation.
Much of the cost of state and local government is hiring and paying for qualified
people living and working in this high income state to administer and perform the
day to day work of government, whether it be teaching, policing, inspecting,
nursing or any of the other functions required to maintain the services and
infrastructure we rely on from government.

The consequence appears to be that Maryland’s current operating budget, that
provides our current level of services and funding, and that we cannot afford to
sustain next year by more than $1.7 billion, is already woefully inadequate in
many areas. People of all ages are effectively being denied access to a variety
of services that our programs are supposed to provide. People under the state’s
care, protection or custody are receiving substandard attention. In some cases
the safety of staff or the public is at risk from under-funding or under-staffing.

While overall funding has grown in most recent years, it has not kept pace with
many needs. Waiting lists have grown, reimbursements to those providing
services have fallen farther below needed levels, and staffing has been held
below recognized standards.
Data from “Resolving the Structural Deficit & Investing in Maryland’s Future” at
www.gov.state.md.us/pressreleases/DeficitPowerpoint.pdf
  Summary of Governor O’Malley’s Plan to Resolve the Structural Deficit

Governor O’Malley has proposed an unprecedented increase in state taxes,
coupled with spending reductions and a plan to legalize the use of almost 10,000
video lottery terminals (“VLT’s” or slot machines). As shown above, this plan
would gradually reduce and virtually eliminate the structural deficit in Maryland’s
general fund operating budget. While passage of the entire plan in a special
legislative session is not certain, and has generated political and some popular
opposition, even this plan does not yield does not produce additional revenue to
address unmet needs that already exist in state programs and services.

Tax Revenues

The largest component of the revenue plan is a sales tax rate increase, from 5%
to 6%, projected to raise $717 million in FY 2009 ($827 million in 2012), after
deducting the cost of the ‘tax free sales’ initiative.

The restructuring of the personal income tax rate brackets reduces the tax
liability of most Maryland taxpayers, but the higher rates on upper income groups
offset the cost of the rate changes, the increase of the Refundable Earned
income Tax Credit (“EITC”), increased personal exemption for seniors and the
$50 sales tax rebate for low income households, while also generating a net
revenue increase of $162 million in FY 2009.

A 1% increase in the rate of the corporate income tax is dedicated – one half to
the Transportation Trust Fund (“TTF”) and not shown in the above table (more
than the normal 24% share dedicated to the TTF) – and one half to the cost of
increased funding for higher education. Proposed reforms implementing
“combined reporting” for multi-state corporations and closing the “transfer of
controlling interest” loophole in transfer and recordation taxes are projected to
generate $36 million in additional annual state revenue.

A $1 a pack increase in the state cigarette tax is projected to raise $170 million in
FY 2009 (declining to $140 million by 2012). The revenue is dedicated to pay the
cost of a new health insurance initiative. The projected cost of the initiative grows
from $85 million in FY 2009 to $250 million in 2012, at the same time that the
‘dedicated revenue source’ is declining, adding to demands on other general
funds.
The total of net new general fund revenue (including cigarette tax and corporate
income tax revenue dedicated to general fund programs) is $1184 million in
FY2009, growing to $1305 million in 2012.

Gambling Revenue

Authorizing 9500 video lottery terminals (or slot machines) is estimated to
produce new revenue growing from $250 million in FY 2010 to $550 million in
2012. The Governor’s plan dedicates annual slot machine revenues over $425
million to a fund for public school construction, with the general fund receiving the
revenue up to the $425 million level. FY 2009 revenues are projected at only
$27 million.

New Spending or Transfers From the General Fund

Together, taxes and expanded gaming would produce just over $1.2 billion in
new revenue in FY 2009. But the projected deficit is over $1.6 billion, and the
Governor’s plan also includes new spending or transfers from the general fund
totaling $297 million in FY 2009, growing to $602 million by FY 2012.

$40 million in sales tax revenue from short-term vehicle rentals is being shifted
from general funds to the TTF. Approximately $60 in various program costs now
being paid from the TTF will be charged to general funds under the plan. Finally,
the transportation fund will receive a larger than normal share of the increase in
the corporate income tax rate – 50% rather than 24% - a difference of roughly
$30 a year from FY 09-12.

The increase in the cigarette tax is being ‘dedicated’ to the new health insurance
affordability initiative – one way of addressing the critical health care access
problem in the state. However, the cost of that proposal also increases the
demand for new general fund revenue, and the tobacco tax increase will meet
less than 60% of these costs by FY2012, leaving a shortfall of more than $100
million to be met by other general funds.

Finally, the Governor has proposed creating a Tuition Stabilization Fund for the
state’s public higher education system. This addresses another serious problem
– Maryland recently received an “F” grade on higher education affordability from
a national study. He proposes to dedicate the balance of the new revenue from
the corporate income tax rate increase (approximately $60 million annually) for
this purpose.
New Cuts From Projected General Fund Spending

The plan requires substantial additional cutbacks from the present baseline and
projected budgets. Approximately $128 million was taken from the approved
agency budgets in July 2007 that will not be replaced.

Over the next two years several hundred million will be taken from planned
spending on public education by “deferring” a portion of increases in the
Thornton funding plan (‘freezing’ an inflation adjustment factor). For 13 counties
there is a partial offset through a phase-in of the previously unfunded Geographic
Cost of Education Index or “GCEI”. All schools systems still lose funding, and 5
of the seven poorest jurisdictions receive nothing from the GCEI.

More general fund cuts, approximately $130 million annually, are required by the
plan in FY 2009, but have not been specified.

Timing

Legislative approval before January 2008, to allow early implementation of
several of the tax components of the plan, is critical to its overall design. On
paper the plan won’t bring the general fund budget close to structural balance
until FY 2011 (there is a remaining minimal structural imbalance of $32 million
that year and $27 million the next).

The plan must deal with a projected structural (and real) deficit of almost $1.7
billion for FY 2009. That year it generates only $914 million in new tax revenue
available to close the gap, coupled with $437 million in projected spending
reductions, leaving a deficit over $300 million. This is because most of the
revenue gain from the introduction of slot machine gambling is delayed until FY
2011.

The plan solves this problem by proposing to implement the income tax
restructuring, the sales tax rate increase, and the tobacco tax increase on
January 1, 2008, with the proceeds building up a $669 general fund surplus for
the current fiscal year. This balance would carry forward and be spent down to
balance the budget on a ‘cash basis’ in the following years (approximately $315
million in FY 2009, $250 million in FY 2010, and half of the remainder in each of
the next two years).

Issues and Policy Concerns

1. Governor O’Malley’s plan goes far to make our revenue system more fair or
progressive. As in most states, in Maryland lower income groups now actually
pay more of their income toward state and local taxes than those at the highest
levels.
2. The Governor’s plan also begins to address both the problem of the growing
numbers of people being un- or under-insured for health care, and the growing
un-affordability of public higher education.

3. However other than those two initiatives, the plan provides no apparent
revenue to deal with any of the problems of under-funding or under-staffing that
exist today in state agencies, programs or services. As proposed the plan brings
ongoing spending and ongoing revenues into approximate balance by FY 2012,
but allows no room for correcting any other spending needs or possible revenue
shortfalls that may arise, and leaves the state reserve fund at the minimal 5%
level.

4. By 2012 over a third ($573 million) of the projected deficit for that year ($1,727
million) will be “solved” by reducing items included in the budget approved earlier
this year, or anticipated under current law or cost factors.

5. At the same time that the under-funded general fund program is being further
reduced, the Governor’s plan is shifting general fund resources to transportation.
In effect over $100 million in the cuts that need to be taken from the general fund
programs could be avoided if these two funding ‘shifts’ were dropped. This could
be as much as $130 million if the normal sharing ratio of the corporate income
tax were applied to the 1% rate increase in the plan.




The Maryland Budget and Tax Policy Institute gratefully acknowledges the
Ford Foundation, which provides financial support for the Institute under
the foundation’s State Fiscal Analysis Initiative. Additional general support
for the Maryland Budget and Tax Policy Institute is provided by the Aaron
Straus and Lillie Straus Foundation, the Eugene and Agnes E. Meyer
Foundation, the Open Society Institute-Baltimore, the Public Welfare
Foundation, and from generous individual contributions.

The Maryland Budget and Tax Policy Institute is a project of the Maryland Association of
Nonprofit Organizations. For more information on the state budget problem, contact us
at 410-727-6367 ext.18, or hbogdan@mdnonprofit.org