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					    State and Local Public
    Finance Challenges in
    Michigan
        Rochester Rotary Club
             Craig Thiel
Citizens Research Council of Michigan
           October 5, 2010
www.crcmich.org / cthiel@crcmich.org
   Citizens Research Council
          of Michigan
• Founded in 1916
• Statewide
• Non-partisan
• Private not-for-profit
• Promotes sound policy for state and local
  governments through factual research – accurate,
  independent and objective
• Relies on charitable contributions of Michigan
  foundations, businesses, and individuals
• www.crcmich.org
                                                     2
           The Last Decade Has Been
       an Economic Disaster for Michigan

                                     Growth 2000 to 2009   Michigan
                                      U.S.      Michigan    Rank
    Population                           8.8%       0.1%        51
    Real Per Capita GDP*                 9.7%      -3.8%        51
    Employment                          -0.7%     -17.1%        51
    Real Per Capita Income               3.6%      -7.1%        51




         *GDP growth is for 2000 through 2008.
3
        Almost Every Sector in Michigan
                Has Lost Jobs




4
    Source: Bureau of Labor Statistics. CRC calculations.
                State Forecast –
         No Job Growth for Michigan Yet

            Michigan Wage and Salary Employment Y-O-Y Change
                             (In Thousands)




       Avg.
5
    Source: Bureau of Labor Statistics. 2010-2011 estimates are from the May 2010 Cons. Forecast.
               Michigan Has Become Poorer
                 Relative to Other States
Michigan per Capita Income as a Percent of U.S. Per Capita Income
         Rank has fallen from 20th in 2001 to 37th in 2009

                                   122%




                           93%
                                                                                                  87%




6   Source: CRC calculations from Bureau of Economic Analysis data. March 24, 2009 personal income release for years
    Prior to 1969. March 2010 release for years after 1969. Ranking excludes Washington D.C.
    What is the Impact on Public Finances?




7
        Revenue and Spending Effects
    • Revenue
       • All major state taxes affected
       • Property tax begins to show weakness
       • General tax increase in 2007
       • ―Rainy Day‖ funds depleted or at very low levels
    • Spending
       • Spending on ―counter-cyclical‖ programs rises
       • ―Required‖ personnel costs (pensions and retiree
         health) do not abate
8
    The Michigan Budget Story Has Not Changed
     • The state budget has generally tracked economy, but
       other forces at work too
     • Since FY2001, budget faces structural budget problems
     • Prospectively, the State will have to confront dual
       structural deficits affecting:
        - Public K-12 education
        - General Fund-financed programs
     • Its causes have both spending and revenue components
     • We will not grow out of it – long-term problem
     • Conclusion: Significant spending cuts and/or tax
       increases will be required to align on-going spending and
       revenues

9
             On-Going Discretionary Revenue
               GF/GP at FY1965 and one-half of FY2000

     $18.0                               Billions of 2010$              FY2000
                                                                        $14.4B
     $16.0
     $14.0
     $12.0
     $10.0
      $8.0
      $6.0
      $4.0
                      FY1965                                                 FY2010
      $2.0             $6.9B                                                  $6.9B
      $0.0
         61

         65

         69

         73

         77

         81

         85

         89

         93

         97

         01

         05

         09
      19

      19

      19

      19

      19

      19

      19

      19

      19

      19

      20

      20

      20
              Note: GF-GP figures are presented on a Consensus basis and adjusted for inflation
              to 2010 dollars using the state and local government price deflator. 2009 and 2010
10            are estimates.
                              On-Going Dual Deficits
                            FY08 Benefitted from Tax Increases
                                     GF/GP and SAF Operating Deficits*

                   $400
                   $200
                     $0
     Millions




                  -$200
                  -$400
                  -$600
                  -$800
                -$1,000
                -$1,200




                                                                                                          *
                       98

                              99

                                     00

                                            01

                                                   02

                                                          03


                                                                 04

                                                                         05

                                                                                06

                                                                                       07

                                                                                              08

                                                                                                     09

                                                                                                        10
                     FY

                            FY

                                   FY

                                          FY

                                                 FY

                                                        FY


                                                               FY

                                                                       FY

                                                                              FY

                                                                                     FY

                                                                                            FY

                                                                                                   FY

                                                                                                      FY
      source: Senate Fiscal Agency                             GF/GP     SAF



          Note: Operating deficits equal difference between on-going revenues and spending in GF/GP and
11        SAF; revenues exclude temporary ARRA funding
          * FY10 is an estimate
         State Spending From State Sources
                         Down Sharply in Real Terms
     •   From FY2000 to FY2010
     •   Inflation up approx. 23%
     •   Total state spending up 22.5% but increases in federal
         aid drove increase; state spending from state sources up
         only 2.3%
     •   Spending changes from state sources:
           • K-12 +8.2%
           • Community Colleges +0.7%
           • Universities/financial aid -13.7%
           • Revenue sharing -34%
           • Corrections +27.2%
           • Medicaid +49.9%
12         Source: Senate Fiscal Agency.
                   Michigan’s GF/GP Budget
                               Significant Changes


            General Fund Appropriations - FY2001    General Fund Appropriations - FY2010
                  Other              Community
                                       Health              Other           Community
                  22%
                                        28%                16%               Health
                                                                              29%

                                                    Higher
                                        Human      Education
             Higher
                                       Services      22%
            Education                                                        Human
                                         13%
              21%                                                           Services
                               Corrections                                    10%
                                  16%                     Corrections
                                                             23%



             Total: $9.9 Billion                      Total: $8.1 Billion

13   Source: Senate Fiscal Agency
         There is a New Chapter in Budget Saga
            Focus Shift to Short-Term Problems
     • Severe recession: all of 2008 and most of 2009
     • Impacts on state budget were massive - primarily in
       FY2009 and FY2010, and lingering into FY2011
         • Revenue declines unprecedented
         • Spending demands spiked
     • State budget unprepared to deal with current recession
         • Exhausted reserves earlier in decade
         • Few non-recurring resources available
         • General tax increases of 2007
     • Challenge facing policymakers - Must correct for two
       problems simultaneously
         • Structural deficits
         • Cyclical deficits
         • Each problem requires specific set of tools
14
                Revenues Crash in FY2009
                            Recover in FY2011 but Slowly
                                 Annual Growth Rates

                                                            Projected       Projected
                                         FY 2009            FY 2010         FY 2011
     Sales Tax                              -10.1%                  1.3%        1.5%
     Income Tax                             -19.0%                -8.1%         2.9%
     Use Tax                                -19.0%                  3.6%        1.5%
     State Education Tax                      -1.9%               -7.2%        -3.2%
     Real Estate Transfer Tax               -26.2%                  1.4%       10.2%
     GF-GP                                  -21.3%                -9.6%         6.6%
     School Aid                               -5.1%               -1.6%         0.8%

15   Note: Projected totals are the May 2010 Consensus Revenue Estimates.
           FY2009 and FY2010 Budgets
                 Attention to Short-Term Problem

     • Revenue decline in FY2009: -21%
        • Major taxes affected by economy
        • Tax policy changes contributed too
        • After 13% increase in FY2008 (income tax rate
          increase)
        • Overall: $2 billion hit to General Fund
     • Another 10% decline in FY2010
        • Economy and tax policy factors continue
        • Another $700 million

                   Two-year decline: $2.7 billion


16
           FY2010 GF Cuts Were Severe
     • Medicaid provider rates (cut 8% from original FY2009
       level)
     • Non-Medicaid CMH funding ($40M cut)
     • Elimination of $238M from DHS budget
     • Revenue Sharing to CVTs down 9.7%
     • State employee concessions/layoffs (varied)
     • Average of -8.4% cut (GF-GP) across all state
       departments
         • Some larger than others
         • Some areas protected from cuts per ARRA
     • Scholarships to university students cut by two thirds
       (incl. elimination of Promise Grants)
     • Budget also supported by $1.2 billion in stimulus funds
17
                      “Balanced” Budget Achieved
                               Heavy Reliance on One-Timers
                            GF/GP Budget: Non-Recurring Resources Used

                                    16% of
                                                         16% of
                   $1,800       total spending
                                                     total spending
                   $1,600
                   $1,400          $281                                 11% of total
                                                         $208
                   $1,200                                                spending
                                                         $177
      (millions)




                   $1,000
                     $800                                                  $327
                     $600          $1,298
                                                        $1,071
                     $400
                                                                           $620
                     $200
                       $0
                                   FY2009               FY2010           FY2011*

                            ARRA      Fund Balance       SAF Transfer   Other Items

     *Based on projected spending
18   •Based on May 2010 Consensus Revenue Estimate
     •Fund balance = $458 million on 10/1//08
           FY2010 School Funding Cuts
                     Initially Very Sizeable

     • On-going revenue $750 million below FY2008
        • Budget enacted with sizeable cuts, including:
        • $165 per pupil ($263M)
        • ISD reduction ($16M)
        • ―Hold Harmless‖ Districts veto ($52M)
        • Others ($35M)
     • Budget includes $450M in stimulus funding
     • Some funding later restored

19
     Schools Face Revenue “Cliff” in FY2012

                           Non-Recurring Resources Used to Balance SAF
                                             Budget
                                 5.6% of state     4.6% of state    4.8% of state
                                   spending          spending
                     $700                                             spending
                     $600
                     $500
        (millions)




                     $400                                              $316
                     $300           $598               $450
                     $200
                                                                       $184
                     $100
                                     $9                 $75             $70
                     $-
                                   FY2009             FY2010          FY2011*

                          Fund Balance           ARRA - Education       Edu Jobs
       Fund Balance = $247 million at 10/1/08. State spending excludes
       federal.
       * Based on enacted budget as of July 2010.
20
         FY2011 Budget – More of the Same
            Solution Includes $1 Billion in One-Time Fixes

     • Non-recurring resources ($945M)
         • Federal Medicaid match increase ($620M)
         • Unclaimed property changes ($166M)
         • Tax amnesty program ($62M)
     • Some structural reforms, but not as much as exec. budget
         • Retirement system changes ($80M)
     • Spending reductions – ($256M)
         • Debt refinancing ($77M)
         • Higher Education ($43M)
         • Human Services ($66M)
         • Corrections ($42M)

          Many of the reductions deemed “aggressive” by Governor
21
              FY2011 School Aid Budget
                       Completed “Early”
     • Original revenue picture: add‘l $250 per-pupil reduction
       ($400M shortfall) in FY2011
         • Sales tax restructuring and MBT phase-out
         • Add‘l net revenue in FY2011 to solve problem, but
           revenue neutral in out-years
         • Mid-year cut for FY2010 ($127 per pupil)
     • May revenue estimate: major improvement for FY2010 and
       FY2011
         • Add‘l rev. $292M in FY2010 and $352M in FY2011
         • Eliminate projected shortfalls and possible cuts
         • Portion of fund balance ($208M) used in GF
     • Budget deal: completed on July 1 - 3 months earlier
         • FY2010 cuts retained ($11 per-pupil cut restored)
         • $318M of fed. Edu Jobs will help restore FY2010 cuts
22
      Problem Only Gets Bigger in FY2012
     General and School Aid Fund Budgets Face Min. $1.6B Shortfall

     • Use of nearly $1.5B in non-recurring resources in FY2011 will
       be added to:
         • First year of income tax rate reduction: $150M
         • Other tax changes
         • Spending pressures related to caseloads and employee
           economics
     • Some relief provided by:
         • Revenue growth coming out of the recession
         • Early retirement plan and pension reforms
         • Fed. Medicaid match still high because of economy
         • Upcoming employee contract negotiations

23
      State Revenues Make the Turn, but
             Local Revenues Fall
     • To date, local property tax has provided stability to local
       government revenue picture ~ 5% growth/yr (‗00 – ‗07)
       and flat in ‘08 and ‗09
         • In short-term and fairly short order, this picture
           changes dramatically
         • Taxable values fall in 2010 and 2011
         • State revenues will not be positioned to help
     • Coming out of the downturn, tax value growth capped
       (Prop. A) – restrains revenue growth
     • Local cuts are coming and will be much more visible than
       many state cuts

24
              TV Growth Stable
        But Taxable Value Now Falling
                        % Change in Total Taxable Value

     6.3%    4.8%     5.7%     5.6%     5.8%     5.2%
                                                          1.4%

                                                                   -0.8%
                                                                                      -3.5%
                                                                              -7.2%



 Average


            Source: State Tax Commission and May 2010 Consensus Conference.
25
         Previously Above the U.S. Ave,
            Not the Case Any Longer

                     Total Tax Collections
              Michigan as Percent of U.S. Average
                    Per              Per $1,000
                  Capita     Rank     Pers. Inc.  Rank
         1979        112.4        12      108.0        13
         1989        105.1        14      106.1        13
         1999        101.3        16      102.8        15
         2007         87.2        30        97.8       25

26   Source: US Census
            Long Term Fiscal Challenges
                  Combination of Revenue and Spending


     • One-time resources eventually run dry (ARRA, Edujobs)
     • State taxes reduced, but underlying relationship between
       taxes and economy unaffected
     • Constitutional tax limitation (Headlee) will control growth
       in property tax receipts at unit level
     • Constitutional tax limitation (Prop. A) will control growth
       of property value at parcel level
     • Local governments more limited tax base and they are
       constrained in tax choices (no sales tax)
     • Spending pressures facing state and localities similar –
       health care and retirement, long-term obligations

27
           State Revenue Growth Does Not
              Keep Pace with Economy
     • Increasing senior citizen population—retirement income
       not taxed and spend less on goods
     • Consumption taxes goods oriented—economic growth is in
       service sector
     • Slow or no growth revenues drag down overall growth
       (e.g. tobacco, gambling, alcohol)
     • Flat rate income tax
     • Tax Policy – reduce ―natural‖ growth
        • Earned Income Tax Credit
        • Phase-out of Income Tax increase

28
                   Structural Deficit
             Spending Pressures Outpace Revenue Growth


     • Over 85% of GF/GP budget concentrated in four areas:
        • Community Health ($2.4B)
        • Corrections ($1.9 B)
        • Higher Education ($1.8 B)
        • Human Services ($0.9 B)
     • Most significant spending pressures:
        • Health care
        • Corrections – personnel costs
        • Employee compensation – pay and fringes
     • Caseload and ―inflationary‖ increases drive spending
29
                     Without Structural Reforms
                        Problem Compounds
                    General Fund Structural Deficit Projections
                                 FY09 to FY17
                $18,000
                $16,000        Spending grows 6.8% annually
                $14,000
     Millions




                $12,000                                    Deficit=$6 B in FY17
                $10,000
                                     Revenues grow 1.4% annually
                 $8,000
                 $6,000
                          09

                               10

                                      11

                                             12

                                                  13

                                                       14

                                                              15

                                                                   16

                                                                         17
                      FY

                            FY

                                   FY

                                          FY

                                                 FY

                                                      FY

                                                            FY

                                                                 FY

                                                                       FY
30       Source: CRC, Michigan’s Fiscal Future
           Structural Spending Reforms
                         Actions Taken To Date

     • Corrections – focus on decreasing prison population
       through reducing the length of stay
         • Administrative actions to date – 6,300 prisoner
           reduction since 2006 peak
         • Gov. proposal to restore ―good time credits‖ to
           reduce 10,000 prisoners – not adopted by legislature
     • Public employee compensation – focus on benefits
         • New employees: 20% premium sharing
     • State pension plans – require employees to pick up
       cost of retiree health care (cost shift from employer)
         • Recent changes require 3% contribution; however,
           some savings offset by ―early out‖ plan

31
        Other Potential Areas of Reform
                      Topics Under Consideration


     • Tax Structure – Potential goals include: faster
       growth; more favorable to economic development;
       increased progressivity; additional revenues;
       property tax limitations (Headlee and Prop. A)
     • Local Government Service Consolidation or
       Service Collaboration – Increased service sharing
       among local governments, or outsourcing of service
       provision in an attempt to achieve cost savings
     • Investments in Areas Deemed Key for
       Economic Development – Potential areas include
       infrastructure, higher education, targeted tax
       credits for key industries (e.g. film credits, battery
32     credits)
            Challenge Looking Forward
     • Michigan has to come to grips with new reality –
       sooner the better
     • No shortage of solutions - problem fairly well
       defined
     • Generating consensus around a reform agenda –
       very sharp philosophical differences exist
     • Long-term problem - will require a long-term
       solution (no ―silver bullet‖)
     • For those dependent on public dollars and absent
       reforms – likely to get worse before it gets better

33
Citizens Research Council
        of Michigan


   CRC Publications available at
        www.crcmich.org

Providing Independent, Nonpartisan
  Public Policy Research Since 1916




                                      34

				
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