Governor's New Revenue Estimate on Shaky Ground
On Tuesday evening, Governor Justice announced a pay raise “deal” that would include pay raises of five percent for teachers and school service employees, and a three percent pay raise for state employees. On Wednesday night, the House passed a bill (HB 4145) that includes a five percent raise for teachers, school personnel, and state troopers. Altogether the price tag for the salary increases (not including state employees) is $67.4 million, according to State Budget Director Mike McKown.
On Wednesday , the Governor also released a revised revenue estimate that includes an additional $58 million in tax revenues for FY 2019, including $15 million in additional sales tax collections and $43 million in additional personal income tax collections. According to the Governor’s Office, the $58 million increase in the FY 20199 revenue estimate was derived from “anticipated road construction activity from future bond sales and positive feedback associated with federal tax reform.”
It’s difficult to reconcile the Governor’s new revenue estimate since they have already accounted for both the impact of the road bond sales and part of the federal tax cuts passed in December 2017.
According to the Governor FY 2019 Executive Budget (Vol. 1), the Six Year Financial Plan (page 4) anticipates “employment growth” from "the bond sales that should add an average of more than $0.5 billion per year in additional construction between FY 2019 and FY 2022.” The consumer sales tax revenue estimates (pg. 89) also states that the “current forecast is largely based on the expectation of some acceleration in growth of disposable personal income” and “employment growth, especially in the construction industry, and some positive feedbacks associated with pending Federal tax reform.”
Meanwhile, the original revenue estimates for the personal income tax include the "additional fiscal stimulus” from the “recently-approved State Road Bond Amendment.” The personal income tax estimates also say that the growth forecast is “subject to some additional modification depending on federal tax reform and the state’s response to changes in various federal definition in the determination of taxable income.”
It is pretty clear that the original FY2019 revenue estimate already took into account the impact from the road bonds, and that at least the sales tax revenue estimate took into consideration the federal tax cuts passed in December 2017. The other point about the “state response” to changes in the federal definition of taxable income was taken up last month when the legislature passed two bills (HB4146/HB4135) that conform the federal definition of taxable personal and corporate income (AGI) to the state's definition of taxable income. Since there was no fiscal note attached to the bills, it appears that the “state’s response” from the federal tax changes isn’t going to have much of an impact on income tax revenues.
A look at General Revenue Fund collections over the last two decades reveals that meeting the new revenue estimate could be difficult. The Governor’s new estimate shows that General Revenue Fund collections will grow 4.5 percent in FY 2019 from the FY 2018 estimates, which are already down $28 million in the first seven months. Over the last 20 years, the average annual growth of General Revenue Fund collections was 2.8 percent. Economic recessions (2009 to 2010), fluctuations in energy prices and mineral production (2004 to 2008 and 2012 to 2017), tax reductions (2007 to 2017), and uses of one-time funds (2012 to 2017) can have a significant impact on revenue growth. For example, the drop in natural gas prices and coal production over the last several years has depressed revenues, along with the phase out of the sales tax on groceries and deep reductions in business taxes and a sluggish economy. While 4.5 percent growth is not out of the realm of possibilities, it has only happened six times out of the last 20 years.
To generate an additional $58 million in General Revenue Fund revenues, you would need about $1.3 billion in additional economic activity based on state effective tax rates.(1) It is hard to see how this could happen. According to the Institute on Taxation and Economic Policy, the total reduction in federal taxes from the federal tax cuts passed in December 2017 is an estimated $1 billion in West Virginia for calendar year 2019. While it is possible these tax reductions could boost the state’s economy some, the impact could be small since most of the cuts (71 percent) went to the top 20 percent of West Virginians. Furthermore, if they were going to have a large impact on income tax collections in West Virginia, it would have been noted in the state tax conformity bill mentioned above.
It is a big risk for our legislature to tie raises for school workers and others to a new revenue estimate that is on shaky ground. If the legislature decides to bank on the $58 million in expected new revenues next year, it could led to mid-year cuts or reduction in the state’s Rainy Day Fund if revenues don’t meet estimates. The more sound approach would be for the legislature to find a real and permanent source of revenue to pay teachers and other pubic workers an adequate salary.
One good idea that has been suggested is to raise the natural gas severance tax to 7.5 percent from 5 percent. As Sean has pointed out, this would have little impact on production but provide much needed revenue to address the increased cost of health insurance (PEIA) for pubic employees and help fund salary increases.
1. West Virginia’s state personal income in 2016 was $67.1 billion. In 2016, the state collected $3.0 billion in personal income and sales and use taxes or 4.5 percent of personal income. Based on this effective rate, you would need $1.28 billion in income to generate $58 million in income and sales taxes ($58m/4.5%+ $1.282 billion).