Stimulus Tax Breaks Threaten State Revenues

Cash-strapped state treasuries could lose tens of millions of dollars in income and corporate tax revenue if states copy the tax breaks in the federal economic stimulus package, officials say.

Most states tie their tax code to the federal government’s to make it easier for individuals and businesses to fill out their tax forms. The $787 billion stimulus package that Congress approved and President Obama signed contains about 10 new tax cuts that state officials will have to decide whether to follow.

Among these are a new tax deduction for buying a new car; an increase in the earned income tax credit, which gives workers a tax break depending on the size of their families; an increase in the first-time homebuyer’s refundable tax credit; and several provisions benefitting small businesses.

State officials, who have been preoccupied with paring budgets and figuring out the massive stimulus legislation, are just beginning to estimate the losses to state treasuries from coupling, or matching, their tax code to Washington’s. No group has toted up a national total, but officials say it is safe to project the losses in the tens of millions of dollars.

“States need every penny they can corral from their current revenue inflows to bolster their budgets,” said Sujit CanagaRetna, senior fiscal analyst for the Southern Legislative Conference of the Council of State Governments.

“While the stimulus package funnels billions of dollars to states for Medicaid, unemployment and other areas, decoupling from the federal tax code will inject additional revenues into state coffers at a time when they are so very urgently needed,” he said.

Nearly all of states face budget gaps from the worst recession to hit state governments in 25 years.

Oregon lawmakers were first to recognize the problem. Before Congress acted on the stimulus in February, the Oregon Legislature voted to decouple, or disconnect, state taxes from the federal tax code.

Arizona officials say they could lose $73 million in the current budget year in the reduction in state income tax withholding. Idaho officials pegged the state’s revenue loss at $14 million. In North Carolina, one early estimate said the state could lose $760 million in revenue over the next two years. The wide gaps show the inexact nature of making such predictions.

Among tax breaks for business in the stimulus package that would affect some states is one called “bonus depreciation,” which allows for accelerating the tax write-off for businesses buying computers and other equipment.

When Congress was considering an economic package in 2008, before the economy tanked, the left-leaning Center on Budget and Policy Priorities in Washington, D.C., estimated that 23 states could forfeit an estimated $1.7 billion in corporate and individual tax revenue over two years if they went along with the bonus depreciation provision in the package lawmakers were considering then. The center says the provisions in the enacted stimulus are similar, so the $1.7 billion figure is probably still in the ballpark, but the economy is much worse now so businesses likely will hold off making big purchases.

The last time the federal government enacted bonus depreciation in 2002-2004, more than 30 states amended their state laws to prevent the loss in revenue, the center said. For most of the states affected by the new federal provisions, de-coupling will require a simple majority in each legislative chamber and the governor’s signature.

The tax credits in the stimulus that the Federation of Tax Administrators says could affect a state’s revenue if it does not de-couple include:

• A refundable “making work pay” federal tax credit of $400 for each taxpayer (up to $800 for a married couple) in 2009 and 2010;
• An additional federal child tax credit for lower-income taxpayers that also would increase the state credit for many taxpayers;
• A deduction on federal, state and local sales tax for buying a new car;
• Deferral of certain debt income by businesses;
• An increase in the first-time homebuyer credit from $7,500 to ,000;
• An increase in the earned income tax credit for the next two years;
• A temporary suspension of taxing unemployment benefits;
• An extension of a bonus depreciation for small businesses; and
• An increase in the amount of expenses small businesses can immediately deduct, from about $130,000 to $250,000 this year.

Stateline.org staff reporter Pamela M. Prah contributed to this report.