Trends We’re Watching in 2018, Part 4: Tax Cuts & Tax Shifts

April 4, 2018

Lisa Christensen Gee
Director of Special Initiatives

This post is the fourth in a series of what we’re watching in state tax policy during 2018 legislative sessions. The first post discussed state responses to federal tax cuts, the second focused on state revenue shortfalls, and the third highlighted improvements to tax credits for workers and their families.

While a lot of tax activities in the states this year have focused on figuring out the impact of federal tax changes on states’ bottom lines and residents, there also have been unrelated efforts to cut state taxes or shift from personal income taxes to more regressive sales taxes. Here’s a look at what has been going on:

1. Cutting Taxes and Support for Vital Public Goods and Services

Arkansas’ Gov. Asa Hutchinson has proposed cutting the top marginal income tax rate for taxpayers with taxable incomes over $75,000 from 6.9 percent to 6 percent, which is estimated to cost the state $180 million. This proposal follows a $50 million cut to the personal income tax in 2017, a $100 million cut in 2015, and a $160 million cut in 2013.

Despite growing concerns about inadequate funding for public education in Arizona (teachers continue to rally for a pay increase and may strike), tax proposals are focused on providing tax cuts rather than funding vital services. House lawmakers are moving bills that would provide a tax break for long-term capital gains – increasing the state’s cap gains deduction (in steps) to 50 percent. Among the slew of other proposed tax cuts this proposal will be up against includes Gov. Doug Ducey’s tax break for military retirees, which would exempt the first $10,000 of military pensions beginning in 2020.

In Iowa, there are two competing yet similar tax cut plans put out by Gov. Kim Reynolds and the Senate. The governor’s plan would make a host of changes to the state’s personal income tax, including eliminating the federal income tax deduction, cutting rates, increasing the standard deduction, eliminating the alternative minimum tax, and coupling to recent federal reforms (including partially opting in to the federal deduction for pass-through income) at an estimated cost of $200 to$250 million. The cost of the net income tax cut is partially offset ($94 million) through extending the sales tax to include digital goods, ride sharing, subscription services, online sellers, online marketplaces, and online travel company websites. The Senate‘s $1 billion tax cut plan includes the same sales tax base expansion as the governor’s, but would fully couple to federal taxable income, thus adopting the full pass-through deduction and recent changes to the federal standard deduction/itemized deductions/personal exemptions, expand 529 plans for private K-12 expenses, reduce the top rate from 8.98 percent to 6.6 percent, reduce the number of income tax brackets to five, and also cut the corporate income tax rates among other changes.

In Nebraska, a variation of a tax cut proposed by Gov. Pete Ricketts advanced from committee to be considered by the full legislature. The proposal cuts the corporate income tax rate and phases in a massive refundable tax credit for property taxes that would eventually grow to 20 percent of residential property taxes (with a $500 cap) and to 20 percent of agricultural property taxes (with no limit). Aside from raiding the state’s Rainy Day Fund for $35 million to pay for the first year of the cuts (which is less than one-tenth of the eventual annual cost), the bill identifies no funding for the cuts.

There was a push this session in the New Hampshire legislature to eliminate the state’s interest and dividends bill. The bill would do away with the tax by reducing it by a percentage point each year starting in 2020 until it is fully eliminated in 2024. However, lawmakers chose to table action on the bill, citing concern for negative effects the tax cut would have on the state’s bottom line.

In West Virginia, lawmakers were not interested in reengaging in the fight from last session to cut and ultimately eliminate the personal income tax. Instead, lawmakers focused on eliminating the state’s inventory tax without offering a plan for how to make up for the lost $140 million in revenue. However, a nine-day teacher strike and civic engagement around the need for education funding put this issue on the backburner. Before ending their session, lawmakers passed a budget, a pay increase for educators, and a freeze on PEIA changes. But rather than funding the pay increase for teachers with new revenue, lawmakers covered the costs by relying on budget cuts.

Wisconsin lawmakers enacted a one-time, $100 child tax rebate in addition to approving a back-to-school sales tax holiday, giving Gov. Walker a $133 million tax cut package on which to campaign for re-election. Another tax cut that was championed this session by the governor but failed to make it through the legislature was a business tax incentive of $100 to$115 million for the Kimberly-Clark paper company.

2. Shifty Business: Movement Toward More Regressive Tax Bases

In Kentucky, Gov. Matt Bevin and lawmakers have long been discussing both tax and pension reform.  Republican lawmakers held discussions on the budget and tax behind closed doors. In a plan that was not made available to Democrats or the public until Republican lawmakers introduced it, the legislature voted along party lines to approve a dramatic shift in the tax system from income to regressive consumption taxes. The plan flattened the income tax to 5 percent, restructured itemized deductions, lowered the threshold for the pension income exclusion, eliminated the $10 personal credit, and adopted a single sales factor apportionment for corporate income. To offset these income tax cuts, the plan also broadened the sales tax base to 17 services and raised the tobacco tax. While the bill is currently on Gov. Bevin’s desk, the fast-paced reform efforts may not be entirely settled yet, as there is an effort to backtrack new limits on the pension exclusion.

In Missouri, a proposal to significantly cut the personal income taxes while offsetting some of the costs through corporate income tax changes, expansion of the sales tax to online sales, and a gas tax increase phased in over three years has advanced in the Senate. SB 617 would eliminate the top PIT bracket and cut the new top bracket while also cutting all remaining PIT rates 0.1 percentage points at a time based on a revenue trigger (the top rate would be further reduced if the Marketplace Fairness Act passes). The bill would also create a 20 percent nonrefundable EITC, phase down the federal income tax deduction, and couple to the federal SD increase. The bill faces an uncertain future in the House.

The 2018 legislative session in Mississippi ended without movement of a tax shift proposal that would have eliminated the state’s 4 percent personal income tax bracket and raised fuel taxes by 12 cents per gallon for gasoline and 15 cents per gallon for diesel. The proposal would have left a huge hole in the states’ general revenue fund.