Editorial Board

How States Should Spend Their Tax Windfall

Away from the shutdown in Washington, the battle over government spending is being fought in state capitals against a different backdrop: Rising tax revenue, and the debate over how to spend it. Many states are choosing to cut taxes -- a worthy goal that’s being embraced a little too carelessly.

State tax revenue in the second quarter of 2013 was almost 10 percent higher than a year before, according to U.S. Census data. The uptick has encouraged states, especially those with Republican governors or legislatures, to cut corporate or individual income taxes. Wisconsin, Indiana, New Mexico and North Carolina have done so, and Florida and South Carolina are thinking about it. The cuts are intended to “encourage work and investment,” as Ohio Governor John Kasich said in August.

That’s fine, so long as the recovery in revenue isn’t a blip and critical spending programs aren’t being starved of funds. Both points warrant more careful attention.

Some of the recent revenue windfall is from wealthy taxpayers shifting income into 2012 for tax-planning purposes. The revenue from individual income taxes was almost 20 percent higher in the second quarter than a year earlier -- a far bigger swing than the tepid economic recovery would have caused by itself. If the new level of revenue is partly an illusion, overgenerous tax cuts could put some states in fiscal distress later on. States would be well-advised to project their revenue (forgive the expression) conservatively.

Desirable as lower taxes might be, many states also ought to recognize other pressing uses for new revenue, should it last. Underfunded state-run pension plans cloud the long-term fiscal prospects in many parts of the country. Making proper provision for those liabilities (alongside steps to contain their growth) ought to come first.

Spending on education should be another high priority. From 2001 to 2012, state funding per student in higher education fell from $8,427 to $5,906 in 2012 dollars, a drop of almost a third. That left colleges to lean increasingly on students and the federal student-loan program. The cost of a bachelor’s degree at a public university rose 46 percent in real terms from 2000 to 2010, and the proportion of people defaulting on federal student loans is at its highest in almost two decades.

Those defaults have wider economic consequences. And young people who decide to forgo a college education aren’t just blighting their own economic prospects: With a bachelor’s degree fetching 71 percent higher earnings than high school alone, less-educated workers have less to spend in their communities, and pay less tax as well.

You can’t help noticing that the drop in spending on higher education has been most pronounced in some of the states that have cut or are trying to cut taxes.

-- Wisconsin cut general-fund spending on higher education by 17 percent in 2012. That brought the total to $1.16 billion, less than in any year since 2000 (and that’s in dollars unadjusted for inflation or expanded enrollment). In June, Governor Scott Walker signed a two-year budget that includes almost $1 billion in tax cuts, and his spokesman said he’s considering more.

-- Kansas has cut general-fund spending on higher education every year since 2008. Governor Sam Brownback signed legislation last year that cut state income taxes by $3.7 billion over five years.

-- Iowa cut its general-fund spending on higher education by 20 percent from 2009 to 2012, providing less than in any year since 1996. In June, Governor Terry Branstad cut property taxes by $4 billion over 10 years, and cut income taxes by $90 million a year. He called it the biggest tax cut in Iowa’s history.

-- Florida cut general-fund spending on higher education by $255 million in 2013, to the lowest in a decade. Governor Rick Scott has proposed a $500 million tax cut.

Lower taxes are a good thing -- but not if they put states on a path to the next fiscal crisis, and not if they come at the expense of spending on education that in the end will pay for itself.

    To contact the senior editor responsible for Bloomberg View’s editorials: David Shipley at davidshipley@bloomberg.net .

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