A Tale of Two Tax Triggers

Tax Policy Center — May 17,2017

Richard C. Auxier

 

Oklahoma is running a nearly $1 billion budget deficit. The District of Columbia (DC) is enjoying a surplus. Yet both might kill scheduled tax cuts. And, for different reasons, both show tax cut schedules are only as good as their schedulers.

According to the Center on Budget and Policy Priorities, nine states plus DC have used  “triggers” since 2002 to spread tax cuts over several years—eight are ongoing. A trigger is like a phased-in tax cut except the reduction only occurs if and when the state reaches some fiscal benchmark, such as future revenue growth.

Triggers can help states provide fiscally responsible tax relief—if designed well. They can also make it easy for lawmakers to pass large tax cuts that imperil future budgets—if executed poorly.

Oklahoma is a model of poor design and execution. Its glaring flaw: tying the tax cuts to estimated revenuerather than actual revenue. As my then-colleague Norton Francis wrote in a prescient January 2015 post, “It’s clear that lawmakers wanted the tax cut regardless of the budget implications.”

Oklahoma passed a two-step tax cut in April 2014. It scheduled a reduction in the state’s top income tax rate from 5.25 percent to 5 percent in January 2016 if the December 2014 revenue estimate for fiscal year (FY) 2016 was higher than the February 2013 estimate for FY 2014. Not only was it convoluted and impossible for voters to understand, but it was designed to effectively guarantee the rate cut under a misleading banner of fiscal responsibility.

By December 2014, oil prices and production were collapsing and the state’s economy was struggling. Oklahoma was already estimating a $300 million budget hole for fiscal 2016. But remember the trigger was not tied to the actual budget conditions, and the FY 2016 revenue estimate was still slightly higher than the FY 2014 estimate. Thus, even though the state could not afford $100 million in tax cuts, the trigger was pulled.

With a slowing economy and falling revenue, the state has faced deficits approaching $1 billion every year since 2015. The budget cuts enacted in response were so severe that 20 percent of Oklahoma school districts moved to a four-day week. Still, the legislature would not even consider bills to stop the triggers in 2015 or 2016.

But Oklahoma’s fiscal hole is now so deep that lawmakers have killed the second trigger before it could go off. If they had not changed the law, the income tax rate would have been cut to 4.85 percent in 2018 if next year’s total estimated revenue growth was greater than the estimated cost of the tax cut. Lawmakers didn’t want to risk it.

DC’s story is very different. In 2014, the District passed major tax reform. (Disclosure: I worked for the tax revision commission that developed the reforms.) The reform package was a deal, with tax changes that benefited low-income residents (EITC expansion), middle-income residents (higher standard deduction), high-income residents (increasing the estate tax threshold), and businesses (lowering the corporate income tax rate). However, the DC Council didn’t adopt all of the commission’s suggested revenue raisers, so some of the cuts were tied to triggers in future years. But unlike Oklahoma, DC’s triggers were based on actualbudgets—specifically, they went into effect when realized revenue was greater than budgeted revenue. The triggered cuts were set to begin in January 2016, and take effect over three to five years. However, DC’s revenue was so strong that all remaining cuts were pulled in February.

That windfall triggered a debate. Two DC councilmembers want to delay cuts in corporate and estate taxes, and progressive groups are lobbying to spend the excess revenue on affordable housing, transit, and to protect against possible federal budget cuts. However, business groups argue the business cuts were part of the original deal and the cuts are needed to sustain recent economic success. Further, the council chair stated, “any effort to repeal them is, in effect, raising taxes.”

You can think DC should go ahead with its tax cuts (and I do) and still appreciate the debate. In stark contrast to Oklahoma, DC set a responsible schedule for its cuts and checked the math as its fiscal situation changed. That’s what lawmakers are supposed to do, especially at a time of weak state revenue growth and unpredictable federal policies. It’s called a trigger for a reason; you can take your finger off it.

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One Response to A Tale of Two Tax Triggers

  1. John Hooker says:

    Great stuff. Keep it up. Duly appreciated.

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