Recent Lessons in Tax Policy From California and Kansas

March 31, 2014

In 2012, as states across the country continued to cope with the aftershocks of the Great Recession, California and Kansas pursued markedly different paths in tax policy.

In Kansas, the state legislature in May 2012 passed — and Governor Brownback signed into law — a package of large tax cuts, including dropping the top income tax rate by approximately one-fourth and eliminating income taxes entirely on business profits that are “passed through” from businesses to their owners. In addition, the Kansas tax package raised the standard deduction and eliminated a number of tax credits that benefit low-income individuals and families.

In contrast, California voters in November 2012 approved Proposition 30, increasing personal income tax rates on very-high-income Californians for seven years and raising the state’s sales tax rate by one-quarter cent for four years.

The divergent paths pursued in California and Kansas provide an opportunity to compare state approaches to tax policy and the impacts of those policies on households, public systems and services, and economic performance.

According to a new report from the Center on Budget and Policy Priorities (CBPP), the tax cuts enacted in Kansas “were among the largest ever enacted by any state” in percentage terms. The evidence from Kansas so far:

  • Large revenue losses: Kansas has seen an 8 percent decrease in revenues used to fund schools, health care, and other public services, with the revenue loss projected to rise to 16 percent over the next five years.
  • Continuing cuts to schools: While most states are attempting to restore funding for schools after years of cuts, Kansas is proposing still more cuts. The Governor recently proposed another reduction in per-pupil general school aid for the next fiscal year that would leave funding 17 percent below pre-recession levels.
  • Little evidence of improving economic performance: Since the tax cuts, Kansas has added jobs at a pace slower than the country as a whole.

California’s experience since the passage of Proposition 30 in 2012 stands in stark contrast to the recent story Kansas. The evidence from California so far:

  • Large revenue gains: The state’s General Fund revenues increased from $85.6 billion in 2011-12 to an estimated $99.8 billion in 2013-14, and are projected to grow to $106.9 billion in Governor Brown’s proposed 2014-15 budget, an increase of nearly one-quarter (22.6 percent) since 2011-12.
  • Increased funding for schools: The Governor’s 2014-15 spending proposal assumes a total funding level of $61.6 billion for schools and community colleges in 2014-15, nearly one-third (30.6 percent) more than in 2011-12.
  • Improving economic performance: Since 2012, job growth in California has outpaced that of the US as a whole.

To be clear, higher state revenues in California are a product of Proposition 30 and a recovering economy, just as slower economic growth in Kansas contributes, along with tax cuts, to lower state revenues. The linkages between tax policy changes and economic performance are, in general, weak. As the CBPP study reports, “states that cut taxes in the 1990s performed worse, on average, over the course of the next economic cycle than states that were more fiscally prudent. And the academic literature overwhelmingly finds that states with lower personal income taxes perform no better economically than their peers.” Recent experiences in California and Kansas support this evidence — increasing taxes in California did not curb economic growth, while decreasing taxes in Kansas did not boost economic growth.

What is clear, however, is that large tax cuts in Kansas — most of which went to high-income households — have significantly reduced state revenues and resulted in cuts to the state’s schools and other public systems and services, while promises of economic improvement have failed to materialize. Meanwhile, in California, the revenues provided by Proposition 30 have provided the state with the fiscal policy space to boost school funding, pay down debts and liabilities, and begin to reinvest in other public structures and supports as the state’s economy recovers.

— Chris Hoene

Tax Cuts Widen Budget Gaps

July 12, 2010

Here’s another claim that falls into the “myths that never die” category: “Cut taxes and revenues will increase!” Sound too good to be true? It is. 

A new CBP report, No Free Lunch: Tax Cuts Widen Budget Gaps, turns this longstanding myth about taxes on its head by reviewing economics research showing that tax cuts result in lower revenue collections. In fact, California learned this sobering reality more than a decade ago when it enacted legislation requiring the Department of Finance (DOF) to conduct “dynamic” revenue analyses to evaluate proposed tax policy changes. “Dynamic” analyses are sometimes argued to be superior to traditional “static” analyses because they attempt to account for the effects of tax policy changes on the broader economy – a critical factor to consider, according to those who believe that tax cuts could generate enough economic growth to boost state revenues and fully “pay for themselves.” 

What did the DOF’s “dynamic” analyses find? “No evidence … that tax rate reductions … can in general ‘pay for themselves,’ as some parties in the past have claimed,” according to a summary of the results by the Legislative Analyst’s Office. For example, a $1 billion “static” cut in corporate income taxes – a very large tax cut, equivalent to a 20 percent reduction at the time of the analysis – would result in an $816 million “dynamic” revenue loss. In other words, the state would lose 82 cents for each dollar of “static” reduction in corporate income taxes, even after factoring in any economic gains that the tax cut might produce. So much for hopes of a free lunch. 

And the evidence doesn’t stop there. “Dynamic” revenue analyses by the Congressional Budget Office, as well as by other states, have consistently found that tax cuts reduce revenue collections. And the historical record confirms this: Tax cuts, both at the state and national level, have failed to generate net gains in revenues. Even several economists who served as chair of the Council of Economic Advisors during the George W. Bush administration have disputed the notion that tax cuts pay for themselves. 

While it’s certainly appealing to hope for a magic bullet, the notion that tax cuts can pay for themselves is simply too good to be true. 

— Alissa Anderson 

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All Around Winners

June 16, 2009

Last week we blogged about a new CBP report, To Have and Have Not, which found that the corporate tax cuts enacted as part of the September and February budget agreements will result in a loss of $2 billion a year, and potentially as much as $2.5 billion a year, in corporate tax revenues – an amount equal to nearly one-quarter of the income tax dollars currently paid by California corporations. The vast majority of the benefits of these tax cuts will go to a handful of large corporations – those with gross incomes over $1 billion.

If not outrageous enough on their own, these tax breaks come at a time when corporate profits have skyrocketed. Total corporate profits reported for tax purposes more than tripled between 2000 and 2007, increasing from $33.9 billion to $122.2 billion, and the average corporation’s profits rose by 154.3 percent, according to the most recent data from the Franchise Tax Board. To put these gains in perspective, consider that if the average personal income taxpayer had experienced a gain comparable to the average corporation’s, that taxpayer’s income would have risen by more than $97,000 between 2000 and 2007. Instead, the average personal income taxpayer’s income increased by just $9,500 (15.0 percent).

Some of the sectors that emerged as big winners due to the recently enacted tax cuts have experienced the greatest growth in profits this decade. Information technology firms will receive the largest tax cut per firm from credit sharing, once fully implemented, and just 28 utility companies will receive tax cuts averaging $1.7 million per firm from the adoption of elective single sales factor apportionment. These cuts come after the average information and communications corporation saw its profits increase fivefold between 2000 and 2007, and the average firm in the transportation, warehousing, and utilities sector saw its profits rise fourfold.

The recently enacted corporate tax cuts come at a time when the share of corporate income paid in taxes is at its lowest level since at least the 1960s. Meanwhile, proposals to close the state’s budget gap largely rely on deep cuts to education, health care, and human services. Where’s the outrage?

— Alissa Anderson