Tax bills still alive: House committees advance capital gains income tax and study of tax structure

The Legislature is in the final days of the 105-day regular session, which often means most of the negotiations take place outside public view. In particular, as we wrote in yesterday’s newsletter, resolving the differences between the House- and Senate-passed operating budgets poses potential difficult challenges. The challenges will be met, of course, and most likely without the extended special sessions we’ve seen in past years.

In The Lens, TJ Martinell writes that House committees have approved a capital gains income tax and voted to continue to study the state tax structure.

Of the former, he writes,

The same week a 2014 legal memo to the Seattle City council regarding a proposed “millionaire’s tax” was released, the House Finance Committee voted on April 19 to advance a bill creating a capital gains income tax to pay for education. HB 2156 would impose a 9.9 percent tax on the income derived from long-term capital gains and direct the revenue stream to the Education Legacy Trust account. The bill would also restructure the real estate excise tax (REET) from its current 1.28 flat rate to a graduated rate.

For some capital gains tax critics, the proposal is viewed as an effort to overturn the state constitution’s prohibition on a progressive income tax. Although the bill refers to it as an excise tax, the tax’s actual definition of capital gains is “the net long-term capital gain reportable for federal income tax purposes.

The Washington Research Council writes,

HB 2156 would impose a capital gains tax and change the real estate excise tax (REET) rate so that it is graduated. The Finance Committee approved a substitute bill on Friday. (We described the capital gains provisions in detail in our brief on capital gains.) The substitute bill approved by Finance changes the capital gains tax exemption for property used in a trade or business to include “tangible property which is subject to wear, tear, decay or decline from natural causes, exhaustion, or obsolescence, including tangible personal property, real property excluding land, and intangible property having a definable life.”

The WRC and others have documented the issues that supporters of a capital gains tax must overcome, beginning with the certainty that the tax will face a legal challenge asserting that it is an unconstitutional income tax and the demonstrated volatility of capital gains revenue streams. Martinell reports on the hearing,

Further cementing the belief by some tax analysts that the bill is meant to trigger a lawsuit was the rejection by the committee of a proposed amendment to HB 2156 that would have prohibited the state attorney general from asking the State Supreme Court to consider the constitutional issue regarding income as property….

In response to the rejected amendment, Washington Policy Center Government Reform Director Jason Mercier wrote that “by refusing to adopt this amendment, it is clear supporters of the income tax on capital gains are trying to set up a lawsuit in hopes judges will do what voters won’t and overturn nearly a century of caselaw prohibiting a graduated income tax.”

Also, the oft-studied state tax structure would be the subject of continued analysis under a bill passed by the House Appropriations Committee. But as The Lens reports, there’s more.

The House Appropriations Committee voted on April 22 after a public hearing to advance a bill that makes changes to the state tax structure and extends the life of a state tax structure work group.

Among the changes made by HB 2157 sponsored by Rep. Gael Tarleton (D-36) is an increase to the preferential business and occupation (B&O) tax rate for travel agents and tour operators from 0.275 percent to 0.9 percent, though a provision eliminating the preferential B&O rate for precious metals and bullion was removed prior to the committee vote.

For all the focus on tax policy changes – most of which are designed to raise taxes – the Association of Washington Business reminds us that the public shows little interest in new or increased taxes. We understate a bit, as the poll graphic below shows.

AWB writes,

The survey reveals a major divide between the general public and lawmakers in Olympia who are debating whether to raise more than $1 billion in new and higher taxes at a time when the state is already experiencing remarkable revenue growth.

“Washington’s tax revenues have grown substantially since the end of the recession, with the state now projecting collections to top $50 billion for the next two-year budget,” said Association of Washington Business President Kris Johnson. “That means lawmakers have $5.6 billion more to spend on the next budget, without raising any new taxes. It’s clear from this survey that most Washington voters believe this is enough to fund the state’s priorities.”

It’s likely to be a busy couple of days in Olympia.

Analysis: A graduated real estate excise tax would be volatile

A new analysis by the Washington Research Council demonstrates the volatility of a graduated real estate excise tax as is currently being considered in Olympia.

The 2019-21 operating budgets passed by the House and the Senate both assume more revenue than is forecasted to be available from current sources. In both cases, budget writers suggest that part of the gap be filled by replacing the current flat rate (1.28 percent) Real Estate Excise Tax (REET) with a graduated rate structure. This would reduce the tax paid on lower valued properties, increase the tax paid on higher valued properties and raise more revenue overall. The existing REET is a volatile tax; a graduated REET would be even more volatile.

The WRC compared the volatility of the REET with that of the retail sales tax in a series of charts, one of which is shown below.

The post concludes,

Exacerbating the problem of volatility, neither graduated REET proposal fully directs its revenue to the general fund, where it would be counted as general state revenue and thus be subject to the constitutional provisions regarding transfers to the BSA. The House bill directs 55.5 percent of the additional revenue generated by its graduated REET to the Education Legacy Trust Account (ELTA), where it would not count as general state revenue. The Senate bill directs about 90 percent of the additional revenue to ELTA. These proposals would make the state’s general fund less sustainable for the future.

The WRC previous pointed out that another revenue source under consideration, the capital gains tax, would pose a similar sustainability problem.

Analysis: House and Senate budgets “fall short” of meeting sustainability test.

The Washington Research Council has released a detailed analysis of the biennial state budgets passed by the House and Senate. (A side-by-side comparison was released earlier.) With just over a week to go in the regular legislative session, reconciling the differences between the two budgets is one of the remaining major challenges confronting lawmakers. 

For those concerned with sustainable budgeting, splitting the differences won’t do the trick. Each budget poses a sustainability problem, so meeting in the middle won’t work. The WRC concludes,

Washington’s recent run of strong state revenue growth won’t last forever. Indeed, the Economic and Revenue Forecast Council expects revenues to grow more slowly in the coming years, and many economists expect a recession sometime in the four-year budget window. With that in mind, the Legislature should carefully consider whether proposed spending levels are sustainable and build adequate reserves.

Unfortunately, the budgets passed by the House and Senate fall short. The high spending levels in both budgets would require new taxes, which the House and Senate have yet to vote on. The House budget depends on a capital gains tax that will be challenged as unconstitutional. Even if it is found to be constitutional, the state would not be able to collect revenues while the case is ongoing, meaning that there would not likely be any collections in 2019–21. This would put the House budget out of balance for the biennium. (Emphasis added.)

Yesterday, we urged readers to contact their legislators and ask them to tap the brakes on spending. The WRC report underscores the importance of that request. 

Other highlights from the report, which we recommend be read in its entirety:

State revenues from current sources are estimated to reach $50.555 billion in 2019–21, enough to cover the 2019–21 maintenance level (the cost of continuing current services). On top of the maintenance level, the House has passed a 2019–21 operating budget that would increase appropriations by $2.421 billion from funds subject to the outlook and the Senate has passed a budget that would increase appropriations by $1.697 billion.

To fund the new policy spending, the House would impose a capital gains tax, and both the House and Senate would change the real estate excise tax so its rate is graduated and increase taxes by repealing tax preferences (the state’s term for exemptions, exclusions, deductions, deferrals, credits, and preferential rates).

Some of the major spending items in both budgets include school employee health benefits and the collective bargaining agreements with state employees. Substantial increases would also be made in human services.

The proposed spending increases are historically large at 19 percent in the House and 17 percent in the Senate. They rank among the highest spending increases of the last 25 years. Given the likelihood of an economic downturn, the Legislature should carefully consider whether this level of spending is sustainable and build adequate reserves.

Right.

Action Alert: Encourage lawmakers to “tap brakes on unsustainable spending”

Those on our mailing list will have received an “action alert” from us earlier today. It’s important. So we’re also sharing it on the blog.

The message will be familiar to those who have followed our coverage of state budget developments.

Washington’s long-running economic recovery and expansion has resulted in unprecedented growth. State spending in Washington grew $11 billion in the last four years. State lawmakers have leveraged this good fortune to make investments in important programs. But they haven’t paid commensurate attention to preparing for an inevitable downturn. Now, many want to increase spending even further and fund that expansion with tax increases. Meanwhile, experts are warning we should be preparing for the potential of a slowing national economy. Please take one minute to email lawmakers now!

Click the link for more detail. And then, please, contact your legislator. Time is short.

Little support for state tax increases in new poll: When informed of budget growth, 2/3 reject tax proposals

Washingtonians think the state Legislature should be able to write a budget without imposing new taxes, according to a new DHM survey commissioned by the Association of Washington Business

As the chart below taken from the AWB blog post shows, when informed of growth in the state budget, two-thirds of those polled oppose new taxes.

State revenues have increased dramatically on the strength of Washington’s robust economic recovery from the recession. The March forecast added $861 million to the mix. Yet, budgets proposed by the House, Governor, and Senate all include new taxes.

Spending has also increased at a heady clip, up 44 percent in the last decade. That’s before the increases being proposed this session for the coming biennium. 

AWB writes,

“Washington’s tax revenues have grown substantially since the end of the recession, with the state now projecting collections to top $50 billion for the next two-year budget,” said Association of Washington Business President Kris Johnson. “That means lawmakers have $5.6 billion more to spend on the next budget, without raising any new taxes. It’s clear from this survey that most Washington voters believe this is enough to fund the state’s priorities.”

The statewide survey of 608 Washington voters was commissioned by the Association of Washington Business and conducted April 4-9 by DHM Research. It has margin of error of plus or minus 4%.

Click through for other survey results.

Last month, when the new revenue forecast came in we asked, “Is it enough?”

The voters overwhelmingly answer in the affirmative. It’s enough.

Latest monthly state economic and revenue report shows collections slightly ahead of projections, good job growth

The Economic and Revenue Forecast Council has released its latest monthly report. It continues to reflect the state’s generally healthy economy, while sending some cautious signals.

We have just one month of new Washington employment data since the March forecast was released. Total nonfarm payroll employment rose 14,300 (seasonally adjusted) in March after a revised 5,300 decline in February. The March forecast expected an increase of 6,200 jobs in March. The strong job growth in March was probably influenced by unusu- ally severe weather in February. The construction sector added 4,500 jobs in March after losing 4,200 jobs in February. Private services-providing sectors added 8,000 jobs in March. The manufacturing sector added 200 jobs and government employment increased by 1,500 jobs.

Washington’s unemployment rate edged up to 4.6% in March from 4.5% in February. The rate remains near the all-time low 4.4% first reached last June. The reason for the slight uptick since June is that while employment has continued to grow, the labor force has grown even faster.

After a strong fourth quarter, housing construction weakened in early 2019.

The rear-view mirror confirms that the state has been through good times.

Washington personal income rose to $458.0 billion (SAAR) in 2018 from $428.8 billion in 2017. The 6.8% growth rate in Washington personal income was the largest among the states and District of Columbia and was much higher than the 4.5% growth rate for the U.S. as a
whole (see figure). The difference between Washington and U.S. personal income and GDP growth was mostly due to two sectors: retail trade (which includes electronic shopping) and information (which includes software publishing and other IT services such as internet publishing and web search portals).

Revenues continue to come in at a healthy rate.

Major General Fund-State (GF-S) revenue collections for the March 11 – April 10, 2019 collection period came in $13.9 million (1.0%) above the March forecast. Revenue Act tax receipts were $62,000 (0.0%) lower than forecasted while all other receipts came in $14.0 million (7.1%) higher than forecasted.

So far so good. Yet, it’s worth remembering that the latest monthly report from the Wall Street Journal’s survey of economists finds half of them projecting a recession next year. 

Time to be cautious about future commitments.

Spokane joins school districts looking at layoffs after approving double-digit salary increases

Add Spokane to the list of financially troubled school districts. The Spokesman-Review reports,

One of every 12 employees at Spokane Public Schools could lose their job before the next school year.

Facing a projected budget deficit of about $31 million next year, school district administrators on Thursday began notifying 325 teachers and other personnel that they could be laid off at the end of this school year.

As the S-R notes, district personnel blame the McCleary fix.

“This is a difficult time for SPS, one that is playing out statewide following the unprecedented change to the mix of local and state funding,” Superintendent Shelley Redinger said.

,,,School districts have tied the problems and uncertainty to the state’s new mix of school funding.

Yet, surely much of the problem could be considered a self-inflicted wound,  a foreseeable and foreseen problem stemming from unsustainable salary increases. The S-R notes,

Last year, state and local school officials from around Washington warned that double-digit pay raises given to teachers – including an average 13.2% more in Spokane – could lead to financial problems.

Those raises cost the school district $24 million.

The districts’ problems feature prominently in the last weeks of the legislative session, as lawmakers continue to discuss levy lift legislation, as we wrote last week. The S-R reports,

Along with budget negotiations, the Legislature is also discussing – but has yet to vote on – changes to the levy laws that could either allow districts to ask voters for a higher levy or increase the formula for assistance to certain districts.

“The levy bills are still alive. They will be debated in the next two weeks,” said Senate Majority Leader Andy Billig, D-Spokane.

In another S-R article, Jim Camden writes,

As the Legislature moves into the final phase of settling on a record $50 billion-plus budget – tough negotiations between the leaders of each party in each chamber and the governor’s office over different spending plans – school officials and employees are stepping up the pressure for added financial support for Washington’s public schools.

…There’s no question public schools will get more, legislators say – billions more than the state spent on public education over the past two years, which was a historic amount.

If districts are facing deficits, as Spokane Public Schools officials announced Thursday, they have no one to blame but themselves, Schoesler and some other legislators said.

“McCleary had a requirement that districts negotiate contracts that had sustainable revenue for a four-year period,” said Sen. Jeff Holy, R-Spokane. Spokane Public Schools agreed to contracts that aren’t sustainable for even two years, he said.

Last year, the Legislature approved nearly $1 billion extra for public schools to help with the transition to the new McCleary system. The legislation that accompanied that money set limits on the amount that could be used for pay raises in line with inflation, about 3%. But districts received advice those were not hard limits.

The story provides good detail on the end-game negotiations. And, as we’ve pointed out, the resolution may have a longer-term impact on the state’s historic McCleary fix.

Senate Majority Leader Andy Billig, D-Spokane, said the proposed levy revisions will be debated in the coming weeks as the final budget comes together.

…If school districts are allowed greater taxing authority, some richer districts with high property values could raise more money with small increases, but some poorer districts could be turned down in their efforts to increase the amount they can collect and spend on programs beyond basic education. The disparities among districts for what they can offer students will grow.

As the disparities grow, so will concern with whether or not the state is meeting its constitutional obligation to fully fund basic education. Something to watch.

Washington’s recent economic performance among nation’s best, but a national slowdown remains a concern

Stateline examines per capita income data to compare states economic performance. Washington, unsurprisingly, is shown to have enjoyed a solid run. The map below shows Washington’s 2.8 percent increase in PCPI is twice the nation’s 1.4 percent increase from 2017 to 2018.

Pew reports,

Nationally, per capita income rose 1.4% between 2017 and 2018 after inflation, about the same as the previous year’s 1.6%, according to a Stateline analysis of Bureau of Economic Analysis data. The most recent peak was 4% growth between 2014 and 2015.

This, however, was surprising.

West Virginia had the biggest per capita income growth in the nation, with a 3% increase to about $40,600 after inflation.

The boost in the Mountain State stemmed largely from natural gas and coal jobs, said Brian Lego, economic forecaster for the Bureau of Business and Economic Research at West Virginia University.

“Coal and natural gas, and natural gas pipeline construction, all pay high wages, so that helped push up wages,” Lego said. “Health care and business services also helped, but energy and energy-related infrastructure played the largest role.”

Yet, we’re dealing with growth from a weak base.

West Virginia still ranks next to last for per capita income, ahead of only Mississippi, despite the increase last year.

Washington’s growth is particularly impressive given that our state has long ranked among the nation’s leading economic performers.

The Oregon Office of Economic Analysis also has a good report on middle-wage jobs.

The nation’s largest metro areas turned around first after the recession and have seen the strongest gains overall. Given that many middle-wage jobs are in part driven by population growth, the fact that the big cities have seen the best employment and population gains means they are also more likely to recover their middle-wage jobs. Now, many of the nation’s secondary metros and rural areas are growing again — at least here in Oregon and across the West — but their overall gains are less pronounced than the big urban centers over the past decade.

The report includes this map, showing Washington’s middle-wage job growth to be among the nation’s most robust.

Yet, as the the expansion ages, projections for a slow Q1 remain consistent. Calculated Risk reviews the forecasts, concluding, 

These estimates suggest real GDP growth will be around 2% annualized in Q1.

Again, we think a cautious approach to state budgeting makes sense. While it’s tempting to assume that the strong decade of revenue growth will continue unabated, experience tells us otherwise.