We talked to leaders at the Center for Tax and Budget Accountability and The Civic Federation to learn about their insights on the state’s first spending plan in more than two years.
Question: In your view, what are some of the key aspects of this budget?
Laurence Msall, president of The Civic Federation of Chicago:
The most important aspect of the state having a budget for the first time in two years is that it puts parameters or some limitations on the obligations that the state of Illinois is going to incur in the coming fiscal year.
For two years, the state has operated without a budget, which is not the same thing as operating with a limitation on expenses. We’re still spending money. It’s not the same thing as being fiscally conservative, not paying your bills. Not paying your bills on time is driving an extremely large amount of expense for the state of Illinois.
The most important part is that even though the governor did not sign the budget, the General Assembly overrode his veto to establish a limitation on the obligations that the state will incur. So for the first time in two years, there are actually appropriations for employee health insurance and retired employees’ health insurance. That means the state should not have to pay the 12 percent interest penalty that it has been paying in recent years, even without appropriations. So the most important part of the state having a framework of a budget—and it’s only a framework because it remains in question whether it can be implemented now that the booby trap issue of education funding reform has been established.
That is — and although the Illinois General Assembly included appropriations for elementary and secondary education, including the school aid formula, as well as categorical funding — they put a restriction that no funds could be released unless the state has an evidence-based policy for the school aid formula. And, as you may know, there is a great deal of debate between the governor and the legislature as to what should be included in an evidence-based formula for funding our schools.
Gov. [Bruce] Rauner has indicated he will veto Senate Bill 1, which was passed by both houses of the General Assembly, but not sent to him. And it meets the requirement of being an evidence-based rewrite of the evidence- based formula, but the governor has indicated that because it includes money for the Chicago City public schools pensions, he is opposed to it. And as indicated, he may veto it.
So that’s why it’s very hard to say what’s the best part of the budget is, because there is a big part of it that is undecided and that is the critical pare of elementary and secondary education. If the general assembly and the governor don’t come together in resolution of the stalemate over elementary and secondary education, school will not be able to open, and the state’s financial stability will take another hit.
Q: One of the provisions of the budget package for Fiscal Year 2018 is an increase in the state’s personal income tax rate from 3.75 percent to 4.95 percent, while the corporate rate is boosted from 5.25 percent to 7 percent. Is this enough to generate the revenue the state needs?
Ralph Martire, executive director of the Chicago-based Center for Tax and Budget Accountability: One thing that my organization does is that we project whether or not the state’s current revenues will be able to maintain current expenditures into the future, if law doesn’t change. So if no programs or services are added or expanded, does your current revenue make, generate enough growth over time to sustain current level services, and pay off the debt you’ve already incurred at the state level?
So before the tax increase passed and the net tax increase was roughly about $5 billion a year, we projected the state really needed about $7.5 billion in new revenue to be able to maintain current expenditures. And that — if and only if —the state also dealt with its pension debt problem in a rational way because the other main pressure on state finances is the repayment plan for the money that was borrowed from the five state public employee pension system over the last few decades.
Q: And do you agree that this income tax increase was really needed as a good start or could there have been a different way to do this?
Msall: No person or organization has shown a credible plan by which the state could operate with its $32 billion dollars in revenue without a tax increase, without gutting major areas of higher education, public safety, elementary education, or pushing enormous tax increases down on local governments. So the evidence— even the governor, who initially indicated his opposition to tax increases for the state budget, ended up supporting the potential for a tax increase if it was tried to his reform agenda. But his reform agenda was not enacted by the General Assembly.
And as a result the governor did not support a tax increase that was established. The amount of the tax increase does not effectively take Illinois out of the financial woods. The political desire to be able to say, that we are all going to raise the income tax to 4.95 percent when the temporary rate was 5 percent, may turn out to be a hollowed victory, because it means that our unpaid bills continue to rise, and our other obligations will be very hard to meet, even with this tax increase—unless the state takes some action to operate more reasonably and reduce its costs going forward.
So it sounds like the tax increase alone will not solve the state’s budget crisis?
Martire: The math is so clear that the state of Illinois doesn’t have adequate revenue to fund services to the level needed to satisfy demographic driven demand. Literally each of the three [major] bond-rating agencies … have all called on the state of Illinois to pass a major tax increase since 2006.
We are a laggard in funding education. Illinois ranks 50th in the country — dead last among the states in the portion of education funding paid for by state revenue. So there is really a lot of room to grow here on the service expenditure side. If we’re even going to try and meet the need generated by our state population, and we need more revenue to do it. And that’s the bottom line.
And I know tax increases are just never a popular thing, and frankly it’s not fun to go on air and talk about the need to raise taxes. Nobody likes to pay more taxes, period. With that said, we have a $777 billion state economy – that’s just the fifth-largest economy in any state of America. So if you put this tax increase that the state needs — roughly another $2.5 billion — so add that to the $7.5 billion dollars total — that’s only 1 percent of our state economic activity. That is such a small tax increase, in context to the state’s economy.
So we’re really letting a very distorted, rhetorical, public discussion on all how terrible tax increases are [which is] getting in the way of actually solving the state’s problems. And we really should solve them—because there’s only two decisions that state law makers and the governor have available to them that actually have a statistically meaningful correlation to enhancing economic growth all the time.
And believe it or not — neither of those decisions involve tax policy. There is no relation to including tax policies at state level and the state’s job growth, or the economic growth, or median income growth — none of that. Instead, the only thing that really matters how well a state invests in its infrastructure, its roads, its bridges, and those kinds of things, and how well it invests in education system.
And Illinois’ current education funding level [is] $4 billion less that what the evidence shows is needed to fund a quality education. So we’re way behind there. The state ranks 50th in the country in the portion of K-12 funding paid for by state resources. We have been cutting higher education funding outrageously. The last two years before we got this budget — it had been cut literally by 64 percent from where it was in 2015. And even this new budget through 2018 that did pass into law — and it’s a good thing that we got it. But even this new budget funds higher education at 10 percent lower than it was funded in 2015. In nominal dollars, when you adjust for inflation, the cut is even more significant. So the bottom line is Illinois has done a horrible job funding education. Illinois is not doing an adequate job funding its infrastructure. And that lack of funding is the primary reason Illinois’ economy is falling behind the rest of the nation in growth over time.
Would more cuts in certain areas be smart?
Msall: Without a doubt, there has to be a reduction in the state’s obligations, in particularly in the areas of the number of units of government that the state of Illinois supports and the tax payer supports. Illinois has 6, 998 units of property tax demanding government — that’s more as twice as many as any other state. And it’s not sustainable.
There needs to be a concerted effort at consolidation, both of the local governments and more modernization on the delivery of government services. And there needs to be consolidation of the multitude of pension programs that the state of Illinois authorizes and administers, because it just far in excess of what the state can afford. In addition, the state’s $130 billion in unfunded pension liabilities for state university and downstate suburban teachers means that there’s not going to be any money in the future, even with the tax increase, unless the state reforms its pension system and begins to bring down that $130 billion in unfunded liability.
Are there demographic groups that will be hit particularly hard by a tax increase?
Martire: The thing about the state of Illinois’ tax system is it’s about as poorly designed from a tax policy standpoint as it can be. If they did a before and after picture of good tax policy and bad tax policy in the textbook, trust me, Illinois would be the before picture.
One of the primary reasons of that, is that by Constitution, we are required to have one income tax rate; we can’t have a graduated structure. Now, there are 41 states in America with an income tax and all (of the others)… have a graduated rate structure. That’s the best practice if you pick up a tax policy textbook, and say, ‘How we are supposed to design it?’ And the reason you want a graduated structure, where you have higher rates applied to higher levels of income and lower rates to lower levels of income, is simple. The way income growth has been distributed economically over time, it is disproportionately gone to top income classes. In fact, from 1980 to 2013 — that’s the data set we reviewed — after you adjust for inflation, 139.8 percent of all growth in income in America — so more than all of it, went to the wealthiest 10 percent. Meaning 90 percent of the country was actually earning less in 2013, after inflation in real terms — than they had earned in 1980.
So you can see when income growth is so disproportionately enjoyed by the top income class, you really need a tax system that could respond to that, and responsiveness is the key feature to a tax system, responding to where the economy is going. A flat tax doesn’t do that. So when you have the same rate apply to people whose incomes are declining in real terms over time as you have to people whose incomes are growing in real terms over time, you end up actually worsening income inequality and not generating adequate revenue.