House plan cuts personal income, business property taxes

The first week of the Indiana General Assembly wasted no time tackling some contentious issues – from the rights of employers to protect their workplaces from COVID vaccines to the rights of parents to opt out of classroom lessons on diversity and equity.

In the opening day edition of Fiscal Notes, we highlighted a different kind of debate shaping up among Governor Holcomb, House GOP leaders and their Senate supermajority counterparts: Is it time for permanent tax cuts as the state surplus swells towards $5 billion by the end of June?  Or do uncertain times call for a more cautious approach, waiting to make tax and spending policies together next year, when lawmakers craft a new two-year budget?

House leadership makes tax plan official:

As we hit send on that message, House Ways & Means Chair Tim Brown was filing a specific tax relief package worth more than $1.2 billion by 2026. HB1002 cuts Indiana’s individual income tax rate from 3.23% to 3% over the next four years. (Adding to the $545 million in automatic tax refunds planned for this year, individual taxpayers would see income taxes cut to 3.15% in 2023 and then by annual increments of 0.05% to hit 3% in ’26.)

It also incorporates Governor Holcomb’s proposal exempting new equipment from the current minimum depreciation level (the 30% floor) in the state’s business personal property tax system. It further incentivizes new manufacturing investment by broadening sales tax breaks for production inputs.

But the plan goes further by addressing the 30% floor for current equipment, allowing businesses to claim a state tax credit against the portion of its personal property tax burden associated with the minimum depreciation. The credits are estimated to reduce general fund revenues by $350 million in 2025, approaching $400 million in 2026 and beyond.

Add in the repeal of utilities receipts and use taxes (an impact of $220+ million annually), and the total plan is projected to reduce state revenues by $400-564 million in FY2023, eclipsing $1 billion in FY2025 (the second year of the next budget cycle) and growing towards $1.4 billion with the full income tax cut applied to an entire state fiscal year in 2027.

Looking towards the next biennium: 

House leaders believe current revenue trends and the size of the budget surplus justifies tax relief this year. “I feel strongly that with upwards of potentially $5 billion in reserves and a $2 billion structural surplus that we can do a tax cut responsibly,” Speaker Todd Huston told the Associated Press Tuesday. 

While Governor Holcomb included the new equipment property tax exemption in his legislative agenda, he has been noncommittal – and some Senate Republicans more skeptical – about broader cuts in a non-budget short session.

As detailed in Tuesday’s Notes, the latest general fund forecast added $3.3 billion to the state’s bottom line (and December’s revenue report brings the first month of ‘real world’ data slightly exceeding these new projections). But these remarkable revenue gains are also predicted to slow – from 14% growth in FY2021 to 8% this year and 1.7% in ‘23 after employment hits pre-pandemic levels and federal stimulus filters out of the economy.

The Governor and Senate leaders see this trend heading into a budget cycle without more than $3 billion in direct aid from the American Rescue Plan supporting programs like the Regional Economic Acceleration and Development Initiative (READI). Why not wait on further tax cuts?

The Pre-96 TRF transfer:

The House proposal does have an insurance policy of sorts, to protect healthy reserves and future budget commitments even if revenues after FY2023 settle into a period of 2-3% annual growth reminiscent of the mid-2010s.

It cancels a provision from last year’s budget bill that would transfer excess reserves at the end of FY2022 (estimated at $2.6 billion based on December ’21 revenue projections) to pay down liabilities from the state’s pre-1996 teacher pension program.

The state’s current Teacher’s Retirement Fund (TRF) and Public Employees Retirement Fund (PERF) are funded well above the 80% threshold for well-managed pension plans, benefiting from several recent years of strong market returns. The now-defunct Pre-96 TRF is a pay-as-you-go plan that remains on the state’s books as a largely-unfunded liability requiring roughly a billion dollars of annual appropriations from the general fund to cover benefits to participants.

Governor Holcomb was taking aim at teacher pension debt even before the pandemic, and lawmakers decided to seize the opportunity to attack Pre-96 obligations with surpluses growing towards $4 billion last year. Repealing the $2.6 billion transfer would either modestly add to annual appropriations or extend the state’s payoff period 3-4 years after 2034. (The state tax credit extended to previously-purchased business personal property below the 30% floor also expires in 2035.)

Effectively, clawing back the Pre-96 transfer would offset proposed tax cuts over the next three years; it would maintain a budget surplus sufficient to carry over current ARPA-funded programs into FY2024-2025 with additional reserves over 15% of potential expenditures to insulate the next budget plan against revenue fluctuations.

Will this provision ease concerns in the Governor’s Office and the other side of the rotunda, and put Indiana on track to join the twelve other states that already enacted tax relief plans including personal income tax cuts in 2021? At this writing, HB1002 awaits a first hearing in Ways & Means.

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