Tax Cut Spotlight Shines Back on the States in State Tax Cut Roundup: 2018
The ALEC Center for State Fiscal Reform recently released State Tax Cut Roundup: 2018, a report featuring the 16 states that substantially cut taxes during the 2018 legislative sessions. Altogether, these states cut more than $1.7 billion in their measurable tax burdens for the 2019 fiscal year alone. As the tax reforms become fully enacted and state economies grow, that tax savings will only increase in future years. As the ALEC-Laffer Rich States, Poor States report finds, states compete around tax and fiscal policy. Diving into which taxes were cut and which states have demonstrated a persistent devotion to pro-growth tax reform will give a complete picture of which states successfully compete and which are falling behind.
To qualify for State Tax Cut Roundup: 2018, a state must have substantially cut taxes, the legislature must have voted on the tax reform measure in 2018, all tax legislation must result in a net tax cut, and the tax cut must be broad, neutral, and aligned with the ALEC Principles of Taxation. Using these criteria, 16 states qualified for this year’s report. Of those 16, Nebraska, Missouri and Iowa stand out as models for pro-growth tax reform.
Nebraska returned the most money per resident back to taxpayers this year, cutting $166.32 per resident ($326 million) in 2019 tax burden alone and changed how personal income taxes are tied to inflation. This means Nebraska’s tax savings will continue to grow year after year. Missouri passed the largest tax cut in the state’s history, saving businesses $99.4 million annually and each individual taxpayer $206.62 in 2019 alone. Iowa passed significant tax cuts for the first time since the landmark 2013 property tax reform and voted to eliminate the state’s Alternative Minimum Tax (AMT) by 2021, enhancing Iowa’s standing in the economically competitive Midwest.
The wave of tax reform in 2018 was a direct outgrowth of the federal Tax Cuts and Jobs Act (TCJA) reform and subsequent federal tax conformity. Nearly every state tax code mirrors the federal tax code when it comes to state definitions of what is or is not deductible, exemptible, or taxable. Following changes to the federal tax code, states often must decide whether to adopt or alter the policy changes made at the federal level in a process called “federal tax conformity.”
One of the key TCJA provisions was defining the personal exemption at $0 – effectively repealing the ability of taxpayers to exempt income from their federal tax liability. It is important to note that nearly doubling the federal standard deduction and reducing tax rates more than compensated for repealing the personal exemption to create a net tax cut for the vast majority of filers. But, for states with personal exemptions, that meant their own state personal exemptions became $0 in many cases, as a result of linking state tax codes to the federal code. Effectively repealing state personal exemptions – among other tax code changes within TCJA – meant many states were expecting a sudden increase in revenue of hundreds of millions annually.
Many politicians referred to this sudden increase in revenue as a “tax windfall,” but that phrase belies the true origin of a “tax windfall” – an increased state-level burden on taxpayers. Admirably, 19 states returned much of the unlegislated tax windfall gained from the TCJA changes. However, 5 of these states still raised other taxes while cutting income taxes so they did not qualify for State Tax Cut Roundup: 2018.
Virginia Delegate Tim Hugo and Maryland Delegate Susan Krebs joined ALEC for an interview during the State Tax Cut Roundup: 2018 release call to dive into detail on their respective states’ experience when dealing with the sudden tax conformity windfall. It is worth mentioning that Virginia did not qualify for State Tax Cut Roundup: 2018 while Maryland did, as Virginia’s tax reform bill was voted upon in 2019. Del. Hugo described Virginia’s tax conformity process as beginning with a meeting with Governor Ralph Northam. “The Governor came in and addressed us and said ‘look, we have about $1 billion in found money.’ To me, that says taxpayer money. Doing conformity first, and addressing [tax] rates later, is like having dessert first.” Rather than spending the conformity tax windfall, Virginia gave conformity tax revenue back to taxpayers with an October 2019 rebate, an increased standard deduction, and a designated fund for future tax cuts depending on conformity windfall revenue. Altogether, Virginia’s tax reform saves taxpayers $420 million in 2019 tax year liability alone.
Del. Krebs was more critical of Maryland’s federal tax conformity legislation and believed Maryland could have done more to alleviate the burden of state taxes. Maryland increased the standard deduction by $250 and $500 for single and joint filers, respectively, and kept the personal exemption at $3,200 for earners below $100,000 in income rather than adopting the new federal personal exemption of $0 per filer. For Del. Krebs, this was not enough. “Maryland…is a high tax state, and we needed to make legislative changes so that Marylanders would not be inadvertently impacted. Maryland took a lot of the [conformity revenue] and pocketed it themselves.”
Federal tax conformity was a golden opportunity for states looking to cut taxes. What states may lose in revenue by cutting tax rates and returning money back to taxpayers, they gain tenfold in increased economic competitiveness compared to states that chose to spend and grow government. Fortunately, 2019 is another opportunity for states to do the fiscally responsible thing and return an unlegislated tax increase back to taxpayers – and State Tax Cut Roundup: 2019 will be there to cover it.