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From Governing’s
The moves seemed plausible at the time because the tax structure was producing enough dollars to cover the state’s expenses. In fact, though, the boom years concealed some serious structural problems. The manufacturing-based sales tax wasn’t keeping up with the changing economy, and corporate tax receipts had been declining since the early 1990s. Meanwhile, Kentucky was losing a growing amount of cash to companies that set up tax-shelter subsidiaries in different states and others that avoided corporate license fees through loopholes in the incorporation process.
Last year, the legislature commissioned still another study of the state’s tax structure. Once again, the recommendation was to tax more services and toughen the rules on corporations. But it’s not clear that the outcome this time will differ much from what happened in the 1990s. When House Appropriations and Revenue chairman Harry Moberly proposed changes in the corporate rules that would have raised tens of millions, they went nowhere. Nor did the service tax idea. “It would add a lot of elasticity to the system,” Moberly says, “but it’s not politically feasible.” There’s no disputing that Kentucky needs the cash. In 2001, it had to bridge a $185 million revenue gap; last year, that figure rose to $687 million — nearly one-tenth of the state’s budget. Individual income tax receipts dropped about 2.7 percent and corporate revenues more than 28 percent in that one year. It would have been worse, except that receipts from the coal severance tax — a resource unavailable to most other states — grew more than 13 percent. The state has drained its $280 million rainy day fund and cut spending substantially. In part because of the conditions of austerity and in because of sheer partisan rivalry, Kentucky isn’t even operating with a formal budget this year. Its government is continuing to do business on the strength of an executive order from Governor Paul Patton. In its need to fill a gaping fiscal hole, Kentucky is similar to most of the states in the country. But it clearly made its situation worse by turning back money in good times without much thought to the long-term consequences. “Part of our problem now,” Moberly concedes, “is the tax cutting we did then.” There are some relatively easy fixes available. Thanks to the state’s long and proud history of tobacco farming — and the strong lobbying efforts of tobacco companies — the cigarette tax has remained very low, even as dozens of states raised theirs last year by as much as $1 a pack. Kentucky’s minuscule 3-cent tax is the second lowest in the country (only Virginia, its neighbor to the east, charges less.) “We could raise it a good bit without affecting our status as a bootlegging state,” quips Mark Berger, director of the Center for Business and Economic Research at the University of Kentucky. What’s more, the cigarette tax in Kentucky — unlike the ones in most places — doesn’t extend to other related products such as smokeless tobacco and cigars, which are not taxed at all. Packaged alcohol is taxed at the wholesale level but not at retail outlets, rendering the proceeds from that levy quite a bit lower than in most neighboring states as well. When they do get around to writing a budget again, legislators would be well served to dedicate some funds to bolstering the state’s tax technology. The revenue department (called the “Revenue Cabinet” in this state) toyed with an integrated tax information system for several years and then decided not to implement one. The system is now partially integrated through applications added along the way. A small data warehouse helps guide collections but hasn’t contributed much to audit selection. Audits on alcohol and cigarette taxes continue to be chosen manually, because most excise taxes aren’t yet on automated systems. About 30 percent of personal income taxpayers file electronically, and the state provides for filing over the phone. In addition, the relatively new reliance on 2-D barcodes and imaging equipment has speeded up the processing of paper returns. Last year, legislators passed a politically popular tax amnesty bill. Non-filers and delinquent taxpayers flooded the Revenue Cabinet with payments; during a two-month period, Kentucky ended up collecting close to $100 million in new and accelerated revenues — much more than expected — the vast bulk of it coming from corporations. This is a good news/bad news situation. The good news is that the treasury got all those additional dollars. The bad news is that the state evidently knew less about how much delinquent money was sitting out there than it thought. Copyright © 2003, Congressional Quarterly, Inc. Reproduction in any form without the written permission of the publisher is prohibited. Governing, City & State and Governing.com are registered trademarks of Congressional Quarterly, Inc. |
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f you’re going to rewrite your state’s tax code, you probably shouldn’t do it in boom times. Kentucky tried that in the mid-1990s, when its treasury was flush, and the result was a giant giveaway. Legislators repealed part of the inheritance tax, exempted pension income for most retirees and increased the standard deduction on the essentially flat-rate income tax. They discarded every major proposal to raise revenue, including proposals that would have expanded the sales tax base to more services and others that would have tightened up on corporate subsidies. By 2001, these reforms were costing the state treasury $250 million a year.