States Make the New Year Less Taxing

Flush with $24 billion in budget surpluses, states are pushing through the biggest cumulative tax cut in 20 years.

In Connecticut, a reduced gas tax should mean cheaper fuel at the pump. Colorado is giving residents a $140 million refund on sales taxes. Ohio plans to start cutting income taxes every year its budget is well into the black.

Driven by a buoyant US economy and lower state spending on welfare and Medicaid, 34 states overall are cutting taxes a total of $4.6 billion, the most since 1979.

While many of the cuts are modest, they represent the largest of four straight years of tax reductions, making the 1990s a rare moment of fiscal abundance for state governments.

"It's an embarrassment of riches out there for many states," says Steven Schier, a political scientist at Carleton College in Northfield, Minn. Many enacted tax cuts in the spring but will roll them out beginning in January. Others are poised to propose still more cuts to woo voters in a key election year.

"Politicians are falling all over themselves to put their names on tax cuts and proposing what to do with their state's windfalls," Mr. Schier says.

His state is among those in the best shape with an unusually low unemployment rate of 2.8 percent - compared with the national average of 5 percent. Because of a $1.3 billion budget surplus, on top of last year's $2.3 billion, Minnesotans will get a one-time, $500 million tax cut and a permanent drop of $265 million in personal income taxes.

Other states are rolling out cuts in small doses. In addition to its 6-cent-per-gallon gas tax cut, Connecticut is also cutting $126 million over two years. Rhode Island is stretching its personal-income-tax cut over five years.

The differing methods present a problem for lawmakers. Times of bounty often offer the best opportunity to make sweeping changes in the tax system, but lawmakers don't want to take big steps before they know how long the boon will last.

"The problem in this situation is that states don't know if they should restructure their tax codes for the long haul or wait to find out if this is a temporary blip," says David Liebschutz, director of the Nelson A. Rockefeller Institute of Government. Of concern to lawmakers, he says, is whether more federal responsibilities in health and welfare may devolve to the states, and whether recession might recur.

And although states are getting more money as personal incomes grow, many state decisionmakers are wary of giving this surplus back until they're sure of what is causing the growth.

"Partly because of the stock market fluctuations, states are not altogether sure what their boosts in personal-income-tax revenues mean," says Mr. Liebschutz. "So they feel they should play it safe."

As a result, he and others say, most of the tax cuts have been moderate to small. Although Lousiana, Missouri, and North Carolina all made news by cutting sales taxes on food, Louisiana's action came as a refusal to renew a temporary 1 percent increase.

How to handle uncertainty

To deal with the overall uncertainty, Ohio will begin next year to reduce its personal income tax year by year, based on surpluses from the previous year. After a given year's surplus is tallied, 5 percent will be socked away in a rainy-day fund, and the rest will be spread out among taxpayers.

"This is about as good as it gets in the state government business," says Greg Browning, director of Ohio's state Office of Management and Budget. "The budget is balanced, we are funding essential services adequately, and taxpayers will be getting back a small bonus as long as the good times last."

Since 1998 is a key election year, many governors are putting their own faces on reductions enacted in July and proposing new cuts for the coming year. Many want to follow in the footsteps of incoming Virginia Gov. James Gilmore (R), elected in November, who campaigned heavily against an unpopular tax on cars.

Arizona's acting Gov. Jane Dee Hull (R), for instance, is proposing $200 million in cuts come January. Missouri Gov. Mel Carnahan (D) is touting a new idea for tax credits. Minnesota Gov. Arne Carlson (R) is proposing another tax rebate on top of $500 million in cuts, as well as $175 million in permanent cuts.

Trading places

The tax-cutting scene is playing out in legislatures as well, with Democrats and Republicans frequently departing from their traditional roles. Democrats in Georgia are promising a $205 million tax cut, and Washington Democratic leaders are trying to woo voters with a $400 million cut, noting that the total would mean about $70 more in every voter's pocket.

Ironically, Republicans are the ones who are reining in such activity in many states. In Ohio, House majority Republicans last week proposed cancelling the rebate idea and diverting $200 million into needed construction projects.

"Everyone is obviously pleased that their state economies are humming along famously," says Keith Carlson of Minnesota's Senate Tax Committee. "But opposition and minority caucuses know good times won't go on forever, so they are not wedding themselves to ongoing commitments."

Such sentiment amounted to increased taxes in 14 states - mostly on cigarettes, fuel, and motor vehicles.

For the most part, tax-reform groups nationwide are applauding the reduced taxes. "We are happy that the tax-cutting trend started by Republicans in Congress has spread to the states," says Audrey Mullen, executive director of Americans for Tax Reform in Washington. "We love hearing talk of more tax cuts and look forward to much more."

But some groups question the disparity of benefits to rich and poor, and the political motivations of tax cutters. Iris Lav, a researcher at the Center for Budget and Policy Priorities, says such cuts have not come equally to those of all income levels. Exacerbating a trend from the 1970s to the 1990s, she says, current and proposed state tax cuts will help those at the top 20 percent of income levels and hurt those in the bottom 20 percent.

"Tax policy is a way that states could ameliorate the fact that pre-tax income is increasingly disparate," she says. "But states are not only not pushing against this trend, they are making it worse."