Rich states discover tax windfalls and undercut push for more aid

Photographer: David Paul Morris / Bloomberg

It was a shocking and seemingly unlikely figure.

Eight months after the pandemic – and the brutal economic collapse it caused – the California budget watchdog said the state was poised to take a windfall of about $ 26 billion. Just as New York and Connecticut had revealed weeks earlier, tax revenues came in at a clip no one expected, thanks in part to the booming stock market.

And so it has largely happened across the country this year, albeit to a lesser extent in many of the less affluent states. The fiscal apocalypse that is expected to cause huge holes in state budgets hasn’t come – at least not yet.

This, in turn, fuels some Republicans’ argument that additional federal aid for states and municipalities can wait until next year instead of being regulated in the aid package now hotly discussed in Washington. With the two sides finally approaching a possible deal, this help remains one of the main sticking points.

“In some ways, US taxpayers have saved some money by delaying the stimulus package so they could really understand what the earnings look like,” said Jennifer Johnston, research director of the Franklin Templeton Fixed Income municipal bond team.

To be clear, there are several important caveats to this somewhat rosy picture.

First, many states and cities are still facing major shortages, just not as large as initially predicted. Also, the spike in Covid-19 cases could lead to more economic shutdowns, potentially reversing the burgeoning recovery local governments have seen so far. Most of California is under house arrest again, and New York could go to a home. And because of the backlog in collecting taxes, states have historically been struggling with large deficits long after the recessions have ended.

However, financial forecasts have improved significantly in recent months. In the spring, Congressional Democrats had sought $ 1 trillion in aid for states and municipalities. At the time, states were expected to have total budget deficits of $ 650 billion through fiscal 2022; now that number is estimated at about $ 400 billion, according to the Center for Budget and Policy Priorities. And Democrats are currently pushing for just $ 160 billion as a first step.

The muni bond market, supported by the lowest benchmark interest rates, also shows that investors are not worried about an impending fiscal crisis. States, including Pennsylvania, Michigan and California, can all borrow for 10 years at rates well below 1%, a historically low threshold. Even a benchmark of near-junk debt from Illinois returns only 2.76%, around the level reserved for only the highest-rated borrowers just two years ago.

California is a textbook example of the turnaround in tax accounts. In May, it belted a two-year gap of $ 54 billion. It now projects just a $ 5 billion deficit next year after it reaped a $ 26 billion windfall by bringing in more tax revenues and spending less than expected. Once the epicenter of the coronavirus crisis, New York City has amassed $ 985 million more revenue than predicted for the first four months of the fiscal year thanks to an exciting year on Wall Street.

The surprise underscores the disproportionate impact of the outbreak and the company’s shutdown. Lower-income workers for personal industries such as restaurants lose their jobs, while wealthier individuals work from home, buy goods online, and sell stocks – all generating the income that states depend on to balance their books.

Stock markets have flourished – both due to the Federal Reserve’s interest rate cuts and the prospects for an economic recovery in 2021 – and the IPOs have delivered a new class of wealthy Americans, boosting states like New York and California that have progressive tax systems.

In California, which receives nearly half of its income tax from the first 1% of earners, three former Stanford University students were billionaires from the IPO of their San Francisco-based delivery company DoorDash Inc.

“For those lucky enough to maintain their jobs and income during this pandemic, their financial situation is better than before,” UCLA economists Anderson said in a December report. “These households have been able to save at least $ 1.6 trillion extra.”

Internet sales

And many have continued to spend. Because states are allowed to tax businesses’ internet sales outside their borders, municipal governments have taken advantage of people shopping at home. Texas, which derives its largest source of revenue from sales tax, has seen the largest gain from online retailers’ $ 1.25 billion in collections in the past 12 months, auditor Glenn Hegar said last month. In California, home to some of the most sweeping Covid restrictions on businesses across the country, sales tax revenues are about the same as in the previous year.

Regions have had different experiences given the differences in public health restrictions, and some are just beginning to do so to feel the pain, said Irma Esparza Diggs, director of federal advocacy for the National League of Cities. “This pandemic has not affected our state and local governments in the same way at all times, which was the difficultyeying for Congress this is how much we lose, ”she said.