The State Tax Gravy Train Accelerates

by Steve HanerFirst published today by the Thomas Jefferson Institute for Public Policy.

Any claim that Virginia cannot reduce taxes on its citizens without damaging state programs has been further eroded by two recent announcements.

The explosion of revenue from recent state tax increases is continuing into this new fiscal year, pointing to a potential repeat of last year’s $2.6 billion general fund surplus, which the state’s leadership is still trying to attribute to anything but its tax legislation. In the first three months of this new fiscal year general fund revenue is running $570 million ahead of last year’s record amounts, blowing out projections that assumed last year’s surplus was pandemic-related lagniappe.

The flood of money wasn’t related to the pandemic, not totally. It was related to tax policy decisions made in 2019, 2020 and 2021, the bulk of the surplus revenue coming from higher individual and corporate income taxes.

Adding to that, the Virginia Retirement System told legislators Monday that it has done so well with its investments (a 27% return in one year), the next General Assembly will be able to reduce the amount of cash it invests in the next few years, a significant reduction in annual costs.

The largest reduction in required contributions will be to the teacher retirement account, which will benefit both the state and the local school system budgets.

Normally the state and localities need to budget for increases in the annual pension contribution. A fiscal consultant to local governments told the Richmond Times-Dispatch the good investment news points to a savings, instead, of about $350 million over two years, about $210 million of the benefit accruing to the localities.

That would compensate quite a bit for the lost local revenue that would result (for example) if Virginia eliminated its existing 2.5% sales tax on unprepared food. Not long ago the same fiscal consultant was worried that the local governments could not afford any such reduction. There is no longer any question they can.

Governor Ralph Northam’s administration will not admit that its tax policy changes are driving the surpluses. This from that Times-Dispatch article:

“Overall, this quarter’s revenue performance was strong,” said Secretary of Finance Joe Flores, who will review the revenue outlook with General Assembly budget committees next week. “It is important to remember that we are comparing this quarter’s performance to the heart of the pandemic closures last year when there was still not a vaccine on the horizon.”

You can fool some people that easily, but that’s nonsense. Just a year ago Flores’s predecessor wrote this in the same report at the same point in time:

On a fiscal year-to-date basis, total revenue collections rose 9.9 percent through September, well ahead of the annual forecast of a 1.8 percent decline.

The COVID-19 economic trough was earlier in 2020 and the state was on the upswing by fall. But ignore all that and seek a comparison from before the pandemic even started.

In the first three months of this fiscal year, the corporate income tax collected $459 million, compared to $253 million four years ago. An 81% growth in collection cannot be attributed to inflation or economic growth or better corporate profits. It grew out of the General Assembly’s conscious desire to capture every dollar of the state revenue windfall created when it adopted all the new tax rules created by the federal Tax Cuts and Jobs Act of 2017.

The Assembly did make some adjustments to personal income taxes to compensate for the federally-created windfall. Even so, first quarter personal income tax revenue is up 24% ($800 million) in four years. Collections in those two categories are running $1 billion ahead of four years ago. After three months.

How to cut taxes? In the same Joint Legislative Audit and Review Committee (JLARC) meeting where the good news from VRS was discussed, legislators were also briefed on the status of a study on the state’s income tax. A General Assembly resolution has asked for recommendations on how to make the income tax more progressive, meaning shifting the burden off the lowest income categories.

The interim report was basically just a primer on the issue, with the recommendations not expected for another full year, in time for the 2023 General Assembly. That timing is problematic as both the House and State Senate face elections in 2023, but the Assembly set the deadline.

The data presented Monday by JLARC do point to some obvious steps, steps which won’t be unfamiliar to anyone familiar with previous recommendations from the Thomas Jefferson Institute:

 “Bracket creep has made Virginia’s income tax less progressive over time” reads the headline on slide 25. For a typical taxpayer, the study indicated, income rising with inflation has gone up 96% since 1990, but their state income tax has rising 152% percent. That is bracket creep. Rising inflation will make it worse rapidly.

Raising Virginia’s standard deduction and filing threshold have also increased progressivity,” reads slide 28. Both observations fit nicely with our long-standing advocacy to begin indexing the state’s tax code to inflation, and to at least double the standard deduction taken by most taxpayers (with a goal of matching the federal amount eventually.) Again, absent indexing, inflation rapidly erodes the value of any standard deduction.

It would be a huge mistake for the 2022 General Assembly – no matter which party is in charge — to use this unfinished report as an excuse not to act, to delay another year. The state is sitting on uncommitted revenue now, dollars which are vastly in excess of the amounts required to meet the budget, a revenue explosion set to continue.  If that’s not the time for a tax cut, when is?

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21 responses to “The State Tax Gravy Train Accelerates”

  1. LarrytheG Avatar

    what about all those unfunded liabilities? 😉

  2. James Regimbal Avatar
    James Regimbal

    Steve, that was more than a stretch to imply that I was worried local governments could not afford a cut in the sales tax on groceries. I merely pointed out that locality budgets would be the main losers if the grocery tax was eliminated – out of the 2.5% tax, 1% is for local option sales tax and another 1% is for schools. I do often maintain that localities are screwed by the minimal SOQ coverage of actual positions employed by school divisions. For example, of the nearly 20,000 teacher aides employed by schools, only about 2,800 are covered by the SOQ.

    1. LarrytheG Avatar

      THe SOQ issue is an important point. The SOQs do not fund all positions and it’s up to the locality to fund them, including any systemwide raises and employee benefits and health care.

      All of this falls to the locality.

    2. Stephen Haner Avatar
      Stephen Haner

      All right, a fair point. I do think your comments got folded into the whole “Virginia cannot afford any tax cuts” narrative. As to the SOQ formula, excellent points for another debate which about 20 will be able to follow. 🙂

      1. LarrytheG Avatar

        unless “conservatives” want to argue that the non-SOQ positions are tax & spend “gravy”.

      2. James Regimbal Avatar
        James Regimbal

        I think raising the standard deduction could be a bipartisan issue whose time has come…

  3. One thing for sure, the General Assembly can’t claim public penury as an excuse for not cutting taxes. If the legislature declines to do so, it’s because lawmakers are addicted to spending.

    1. LarrytheG Avatar

      but we do want state-wide improvements in education, we want VEC “fixed” and VDH “fixed” and more State Police, and more transportation infrastructure – not free.

  4. Super Brain Avatar
    Super Brain

    Very good article.
    The 2026 Federal MFJ standard deduction falls to 18,700. Personal exemptions do come back. It would not hurt VA to gradually increase the VA deduction to that. Should still be able to increase funding for mental health and target help for schools where actually needed.

  5. tmtfairfax Avatar

    I read an interesting article that Colorado Governor Polis (D) is supporting a plan to eliminate the state individual income tax to increase the competitiveness of the state to attract some of the businesses that have been leaving California and other high tax states for Texas and Tennessee, which have no personal income tax.

    There has to be apoplexy in the editorial rooms around the nation. Meanwhile a number of these media companies are seeking tax credits for the payroll taxes they pay.

    I’m not arguing for or against repealing the Virginia income tax. But the dip^^^^s in Richmond better start worrying about the competitive status of the Commonwealth. But for federal government spending and the proximity of NoVA to the federal trough, just what does the state economy have?

    BTW, N.C.’s legislature passed a bi-partisan green energy bill, which was signed by Governor Cooper (D).

    1. Stephen Haner Avatar
      Stephen Haner

      I do not know, but Colorado may be one of those states like Texas and Alaska that can cover a significant part of the budget with extraction taxes on energy and mining. Makes it easier to take aim at the income tax.

    2. LarrytheG Avatar

      I think there are about 7 states with no income tax. The trick is to pay attention to the other taxes to make up for that.

      here’s a map that shows the states without income taxes:

      and here’s a map of the states with their total effective tax

  6. Super Brain Avatar
    Super Brain

    Something must be right with the non NOVA economy. Danville of all places breaking ground on a new industry today. Non casino related too.
    Richmond, Henrico, and Chesterfield seem to have a lot going on. Land prices have skyrocketed. Don’t even try to think about renting a crane or engaging a construction company.

  7. James Wyatt Whitehead Avatar
    James Wyatt Whitehead

    Move over gravy train here comes the Chuck Wagon. Just be nice Richmond and give the cash back to the people.

    1. LarrytheG Avatar

      One of the things Richmond could do is get rid of the Car Tax thing and devolve it back to the localities where voters would have a lot more ability to decide the local tax rate.

      I always thought the Gilmore thing was an atrocity – the state messing with local governance instead of letting local governance decide taxing and services.

      1. James Wyatt Whitehead Avatar
        James Wyatt Whitehead

        Political genius that Gilmore. Most people I know detest the old Virginia car tax.

        1. LarrytheG Avatar

          Do you mean the way it was before Gilmore or after?

          The car tax was/is how some counties essentially keep their real estate taxes lower.

          So Gilmore thought the state should intervene and cap the car tax the countries could charge.

          So then they came up with this scheme for the state to essentially collect income taxes and rebate some of it back to the counties to reduce the car tax.

          If Virginia stopped doing this – the income taxes would be lower but the countries would then collect the full car tax – even higher than it is now.

          If you look at the counties and ask what they would cut to keep the car taxes the same as they are now – it would involve the schools and public safety.

          But the Gilmore thing actually perverts the entire idea of local governance and taxpayers holding local govt accountable.

          900 million dollars in the state budget is paid for with State income taxes to Virginians. Not chump change.

          1. James Wyatt Whitehead Avatar
            James Wyatt Whitehead

            Yeah I know all of that Mr. Larry. It was a gut punch to spending. Still, nobody liked paying that tax. Gilmore’s gimmick was the best since:

          2. LarrytheG Avatar

            Gilmore’s plan was bad policy IMHO but every year the GA leaves it alone and of course the counties are not going to complain…

            The GA has voted to subsidize the counties needs with the state income tax rather than let the counties actually be held fully accountable for ALL the taxes they collect for services.

            That’s as bad as the Feds giving tax cuts and paying for it by selling treasury bonds.

  8. Paul Sweet Avatar
    Paul Sweet

    Virginia should either raise the standard deduction to be closer to the federal standard deduction less exemptions. If not, then taxpayers who claim the federal standard deduction should be allowed to itemize deductions on their Virginia income tax.

    I posted this a couple months ago regarding Virginia tax rates:

    “Virginia’s income tax brackets and standard deduction are long overdue for a change because they haven’t changed since the 1970s. Back then the average income was $10 – 15K, which is less than you would make at a full-time minimum wage job today.

    The standard deduction was 15% of adjusted gross income, with a minimum of $500 and maximum of $2000. The exemption was $1000 each for husband and wife, and $300 for each dependent.

    Tax rates were the same as today:
    2% on the first $3000 taxable income
    3% on the next $2000
    5% on all over $5,000

    I’m not sure when the 5.75% on all over $12,000 took effect, but it was long ago.

    The Consumer Price Index has increased from 38.8 in 1970 to 258.8 in 2020, which is 6.67 times higher. If Virginia tax rates were adjusted for inflation, the standard deduction would be a minimum of $3335 and a maximum of $13,340. Exemptions would be $6670 for husband & wife, and $2001 for each dependent. Tax rates would be:
    2% on the first $20,010
    3% on the next $13,340
    5% on the next $40,020
    5.75% on all over $80,040

    Lower income people are paying higher state taxes than they would if there had been some adjustment for inflation over the past 50 years.”

    1. LarrytheG Avatar

      I actually agree with you on much of this. Also point out that workers who are independent contractors often also get hurt by the Va taxation scheme.

      If you are 65 are over, you get an ADDITIONAL 12,000 deduction. That pretty much helps most lower and middle income retirees in Va.

      The Federal tax code is supposed to revert in 2024.

      If it does revert and Va is still conformed to it, it will have a second adverse impact on Va taxpayers if we have changed.

      So if we changed – we may well be talking about more changes in 2-3 years from now.

      Finally, many Virginians who don’t have their taxes done by CPAs may not realize that Virginia has a crapload of other deductions, tax credits, and deductions.

      That’s a path that Va could take also to help
      lower income and independent contractors.

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