States across the country continue to struggle with balancing their annual budgets, plagued by bloated spending and a lagging economy. An increasing number of states have been addressing high taxes and limiting spending by using tax cut triggers. According to Elaine S. Povich of Stateline, seven states—Colorado, Massachusetts, Missouri, New Hampshire, North Carolina, Oklahoma, and Oregon—have implemented tax cut triggers over the past two years.
A tax trigger requires the state government to give refunds or tax credits or reduce certain tax rates if tax revenue reaches certain benchmarks. The idea is that government should not be allowed to keep excess tax revenue if it has sufficient funds to run the state. Tax triggers have become increasingly popular because they allow legislators to pass tax cuts without the fear or a huge revenue shortfall.
Several states have reached trigger benchmarks in recent years, according to Stateline, and others are expected to trigger cuts in the near future. At the beginning of 2015, Massachusetts cut its personal income tax rate from 5.2 percent to 5.15 percent. Next year, Oregon taxpayers will receive around $402 million in tax credits, approximately 5.6 percent off their individual state income taxes. North Carolina businesses will receive a cut in their corporate income taxes in 2016. Michigan may join these three states, as Gov. Rick Snyder signed a bill rolling back the individual tax rate in any year state revenue exceeds 1.425 times the rate of inflation, starting in 2023.
Tax triggers represent good tax policy and help lower taxes, but when implemented improperly they can create new problems. The Tax Foundation points to Oklahoma’s tax trigger as an example of some of the flaws a trigger law can have. Oklahoma’s trigger is based on the balance of the general revenue fund instead of growth in the total budget. Scott Drenkard of the Tax Foundation argues the legislature can choose how to allocate tax dollars and thereby manipulate the amount in the general fund. As a result, total tax revenues have increased in Oklahoma, yet the increase in general revenue appears to be much lower.
One of the main barriers to tax trigger legislation has been a reluctance of state legislators to accept automatic cuts. New Hampshire included a tax trigger in a recent budget compromise, and legislative leaders were able to agree by stipulating the triggers could be rescinded by a vote of the legislature if needed. Although that’s not a perfect solution, a vote against tax cuts is politically difficult, and voters would at least have the chance to hold legislators accountable.
Higher taxes burden families, weaken businesses, and act as a drag on the economy. North Carolina provides a model of tax reform states can follow. In 2013, the North Carolina General Assembly passed a pro-growth tax reform bill that has vastly improved the state’s economy and is a model for other states. Since the reforms were implemented, the state’s economy has grown 30 percent faster than the national average and created a projected $400 million revenue surplus for the 2014–15 fiscal year. Under North Carolina’s trigger law, business owners can now expect tax relief.
Reducing the tax burden on individuals and businesses should be a goal for every state. Tax triggers are a mechanism state legislators should consider when discussion potential tax reforms.
The following documents examine tax triggers and tax expenditure limit efforts in greater detail.
Ten Principles of State Fiscal Policy
The Heartland Institute provides policymakers and civic and business leaders a highly condensed, easy-to-read guide to state fiscal policy principles. The principles range from “Above all else: Keep taxes low” to “Protect state employees from politics.”
North Carolina Tax Revenue Exceeding Expectations Following Tax Cuts
The Tax Foundation argues North Carolina’s $400 million budget surplus is a result of its corporate tax decrease and spending restraints. Tax revenue exceeded expectations, probably as a result of increases in business incomes.
‘Triggers’ Cut State Taxes; But Are They Good Policy?
Elaine S. Povich of Pew Trusts examines tax triggers in several states and how these triggers affect state budgets.
Policy Tip Sheet: Spending Reforms
The Heartland Institute outlines several reforms state legislators can undertake to address spending problems, including privatization, tax and expenditure limits, and retirement reforms.
What Is the Evidence on Taxes and Growth?
In this Tax Foundation study, William McBride examines the effects of tax policy on economic growth. He finds the literature on the topic demonstrates long-term economic growth is to a significant degree a function of tax policy. If governments seek to spur investment, he writes, they should lower taxes on the earnings of capital. If they seek to increase employment, they should lower taxes on workers and the businesses which hire them. The report also includes a discussion of the effects of progressive tax systems.
America Will Pay More in Taxes in 2015 than it Will Spend on Food, Clothing, and Housing Combined
Americans will pay $3.3 trillion in taxes to the federal government and an additional $1.5 trillion to state and local governments in 2015, notes Kyle Pomerleau of the Tax Foundation. “America’s total tax bill of $4.8 trillion is about 31 percent of the nation’s total income. This is a significant amount and is more than America will spend on food, clothing, and housing combined,” he writes.
State Budget Reform Toolkit
The American Legislative Exchange Council outlines a set of budget and procurement best practices to guide state policymakers as they work to solve the budget shortfalls. The toolkit will assist legislators in prioritizing and more efficiently delivering core government services by advancing free markets, limiting government, and promoting federalism and individual liberty.
Keep an Eye on the Trigger Mechanism in Oklahoma’s Tax Cut
Scott Drenkard of the Tax Foundation discusses Oklahoma tax cut trigger and suggests possible improvements.
State and Local Spending: Do Tax and Expenditure Limits Work?
This empirical analysis by Benjamin Zycher of the American Enterprise Institute applies data from 49 states (excluding Alaska) over the period 1970–2010 to the empirical question of the effectiveness of TELs, which display a wide variety of features across the states.
Tax and Expenditure Limits for Long-Run Fiscal Stability
Emily Washington and Frederic Sautet of the Mercatus Center examine how states can correct for the inflexibility inherent in state expenditure systems to respect taxpayers’ desires for government services over time. Although they are not a perfect solution, binding TELs prevent policymakers from increasing state spending beyond voters’ willingness to pay for government services, the authors argue.
Nothing in this Research & Commentary is intended to influence the passage of legislation, and it does not necessarily represent the views of The Heartland Institute. For further information on this subject, visit Budget & Tax News at https://heartland.org/publications-resources/newsletters/budget-tax-news, The Heartland Institute’s website at http://heartland.org, and PolicyBot, Heartland’s free online research database at www.policybot.org.
The Heartland Institute can send an expert to your state to testify or brief your caucus; host an event in your state; or send you further information on a topic. Please don’t hesitate to contact us if we can be of assistance! If you have any questions or comments, contact John Nothdurft, Heartland’s government relations director, at [email protected] or 312/377-4000.