Taxes, School Finance and KASB Testimony

Hearings opened this week on Governor Sam Brownback’s revenue proposals in the Senate Assessment and Taxation Committee (SB 78) and continue Wednesday  in the House Taxation Committee (HB 2110).  KASB’s testimony as a proponent of the Governor’s plan generated considerable surprise, and some dismay from those who oppose the Governor’s plan, including his goal of eliminating state income taxes entirely.  Democrat leaders also point to a new projection by the Kansas Legislative Research Department showing the Governor’s proposed additional income tax cuts would create an $800 million shortfall in 2018.

In this post, I explain what KASB’s said about the state tax and budgets situation and why, and what we will say in hearings in this week.

Kansas faces a serious budget shortfall under current law.

The official consensus revenue estimate released in November projects state revenues for next fiscal year, ending June 30, 2014, will be $705 million, or 11.4%, lower than revenues in the current year (FY 2013) for two major reasons: the scheduled drop in the state sales tax rate from 6.3% to 5.7% and the full impact of last session’s reduction of income tax rates.  Legislative Research estimates that with adjustments for mandatory spending, the Legislature will have to cut spending or raise revenue equal to $267.3 million to avoid a state general fund deficit at the end of FY 2014.  However, that assumes spending down the entire FY 2013 ending balance of $505 million.  Because those one time balances would not available the following year, at least several hundred million in additional spending cuts or revenue increases would be required in FY 2015.

Under state law, the Governor is required to submit a budget with a 7.5% ending balance and no tax increase.  Governor Brownback’s “statutory” budget for FY 2014 meets this obligation by proposing an 8.3% across-the-board cut for all agencies.  The Department of Education would lose $247.9 million; equal to a $365 cut in the base budget per pupil, or about 6.2% of school districts operating budgets (general fund, local option budgets and special education).  The Governor's "real" budget avoids this by using over $100 million in state highway funds to pay for school district transportation aid, by keeping the sales tax in place and removing deductions, and other budget steps.

School operating budgets have already absorbed significant cuts.

School district general fund budgets are $190 million, or 6.8%, below the high level of funding 2009.  (Each district’s general fund is determined by multiplying weighted enrollment by the base budget per pupil, and funded by the 20 mill statewide property tax, other local effort revenues, and general state aid.)  School districts have partially offset those reductions by raising Local Option Budgets over $95 million.  Special education state aid is largely unchanged since 2009, due to federal maintenance of effort requirements.  As a result, school district operating budgets (general fund, LOB and special ed aid combined) are 2.3% below 2009.

Several important facts should be noted.  First, statewide enrollment has increased by almost 2% since 2009, and total weighted enrollment is up 6.8%, mainly due to more students qualifying for free lunch and counting for at-risk weighting.  Second, the consumer price index increased nearly 9.3% since 2009, so the “effective” cut in funding per pupil has been much larger than the dollar amount alone.  Third, because there has been no increase in LOB state aid since 2009, additional LOB funding has been entirely financed by higher property taxes.  Fourth, many districts have been unable to raise more LOB funding because they are at or near the state limit.

Although district budgets and state aid for general education operations have been reduced, other areas have increased.  Since 2009, state aid for bond and interest payments have increased $35 million (although $22 million in capital outlay aid was eliminated), and KPERS contributions for school district employees $86 million.  When additional local revenues for bond payments, capital outlay, food services, student fees and federal programs are included, total school district spending is higher than FY 2009.  However, none of these funds are available for general education programs.

School funding has declined compared to Kansas incomes.

Kansas Personal Income, which is the total income of all residents and a measure of ability to support public services, increased from $108 billion in 2009 to an estimated $125 billion this year.  State aid to school districts dropped from 3.0% to 2.6% of state personal income – the lowest level since the state took over a larger share of school funding in the early 1990’s.  School operating budgets (general fund, LOB and special education aid) dropped from 4% to 3.5% - the lowest level since at least the early 1970’s.  Total school spending dropped from 5.2% of total personal income to 4.6%.

It should be noted that while Kansas ranked 7^th nationally in four major areas of achievement, the state ranked just 27^th in current spending per pupil in 2010 (the last year national data in available and before several years of funding cuts).  No state had higher achievement than Kansas and spent less per pupil.

Faced with these facts, KASB’s testimony was simple: we support tax changes to avoid further reductions in K-12 funding, and to provide additional funding for the increased costs of educational improvement, equity in funding for all districts, and targeted aid for key programs.

The Governor has really made two revenue proposals.

In his budget message, the Governor proposed keeping the state sales tax rate at 6.3%, rather than dropping to 5.7% on July 1 under current law (raising $262.3 million), and eliminating the mortgage interest deduction ($162.5 million).  Combined with other actions, this produces a two-year budget that maintains a 7.5% ending balance; funds the base budget per pupil, local option budget and special education state aid at current levels; and increases funding for bond and interest and KPERS contributions based on current law.  While far below the level KASB supports (and the level ordered by the three-judge panel in the Gannon school finance case), simply maintaining current funding requires a significant increase in state revenues.  KASB supported these or alternative measures achieve that goal.

The Governor’s second revenue proposal, which is also contained in SB 78 and HB 2110, was not part of his budget message.  It would remove the state income tax deduction for real estate taxes in 2014, and then begin further income tax cuts by lower rates in 2014, 2016 and 2017. It would also require that in any year state general fund revenues grow more than four percent, the excess will be used for further income tax rate reductions.

KASB did not support these provisions.  A Legislative Research Department estimate made available Friday projects the cost of these addition tax cuts will increase from $73.6 million in FY 2015 to $126.3 million in FY 2016, $451.1 million in FY 2017 and $943.7 million in FY 2018.  This would reduce state ending balances from 8.0% in FY 2014 to 6.8% in FY 2015, 5.5% in FY 2016, 0.4% in FY 2017; and require $781.5 million in spending cuts or revenue adjustments in FY 2018 to have a zero (non-negative) ending balance.

Democratic leaders have decried this as creating a self-imposed fiscal cliff or future crisis for the state.  Some Republicans responded this estimate assumes “normal” economic growth that increases income tax receipts by 4% and sales tax receipts by 3.75% per year.  If the income tax cuts stimulate higher economic growth, state revenues will also be higher.  However, no estimate has been released indicating how fast the state economy will have to grow to cut taxes at these rates, maintain an ending balance, and provide up to a 4% increase in general fund revenues to support state programs.

KASB was the only proponent for revenue increases to finance the budget.

Other conferees supported the additional tax cuts but were neutral of opposed the revenue increases; while several groups opposed the bill because of further income tax cuts.  That creates a difficult political dilemma.  Democrats and some of the remaining moderate Republicans – the coalition that passed the three year sales tax increase under Governor Parkinson – say they will oppose keeping the sales tax at current levels for two reasons.  First, they promised it would be temporary; second, they say it should not be retained to pay for income tax cuts that mainly benefit upper income taxpayers.  Some have already criticized the Governor’s plan to end the mortgage interest and property tax deductions as tax increases on homeowners – although the Department of Revenue says all income tax payers will still see a reduction in income tax paid even without these deductions.  In fact, as KASB noted, even with the Governor’s tax proposals in FY 2014 and 2015, state tax receipts will be lower compared to Kansas personal income than any year since 1993 when the state assumed more K-12 education funding and reduced school property taxes.

On other hand, powerful organizations like the state Chamber of Commerce and the Kansas Policy Institute also have come out against the Governor’s plans to raise more revenue.  They say state spending should be cut more before any additional revenue is raised, and want to accelerate the reduction in the state income tax to zero.  The Governor included further income tax cuts in his tax bills to make it politically easier to sell the revenue generators.  However, it is possible the bills could pass with the tax cuts intact and the revenue increases stripped out – which is exactly what happened last session to create the current budget problem.

How would additional funding cuts affect K-12 education?

In its testimony on SB 78, the Kansas Policy Institute provided a table showing six states that have lower state spending per resident than Kansas: Texas, Florida, Missouri, Oklahoma, New Hampshire, and Nevada.  Only Missouri and Oklahoma among those states have a state income tax.  KPI argues that Kansas can cuts state spending and still have the “same basket of essential services.”

However, the data for these states only looks at state spending.  Education funding is a combination of state, local and a relatively small amount of federal funding.  Kansas provides 52.5% of K-12 funding from the state. Among the comparison group, only Nevada is higher (55%).  Oklahoma’s state share is 46%; all the others are less than 40%.  Therefore it is not surprising that while Kansas provides about $1,700 more per pupil in state funding, the other states spend on average $1,000 more than Kansas from local sources, which is Kansas would be likely be property taxes.

Although Kansas schools receive about $841 more pupil more than the average of these states, it is not because Kansas is a higher spender.  Kansas ranks 26^th in total revenues per pupil and 27th in current spending per pupil (which excludes capital cost and debt service).  These low-spending comparison states are also among the lowest spending on education, except for New Hampshire, which ranks 14^th in total per pupil revenue.  Texas ranks 36^th, Missouri 38^th, Nevada 43^rd, Florida 44^th and Oklahoma 48^th.  (All financial data is for 2010, from the U.S. Census Bureau.)

Low spending states are NOT getting the same educational results.

Higher spending states tend have by far the better outcomes, and the KPI comparison group makes this point.  New Hampshire, the state with the highest per pupil spending in the group, ranks 2^nd nationally on National Assessment of Education Progress scores, 4^th in high school completion, and 7^th in both preparation for college and adult educational attainment.  Kansas, the next highest spending state in the group, ranks 9^th, 11^th, 9^th and 13^th on achievement measures – higher than any other states comparision states.  With just a few exceptions, the other four states all rank in the bottom half  nationally on education measures – often in the bottom 10.

Educational achievement is critical to economic success.

Kansas may have had a “lost decade” of population and job growth, but it has the second-highest per capita income in the comparison group ($39,494 in 2010), and its national ranking moved up from 27^th in 2000 to 21^st in 2010.  Only New Hampshire had higher per capital income, and it slipped from 6^th to 9^th over the decade.  The two states with the highest educational achievement had the highest per capita income – which no surprise considering that higher education levels lead to higher income and employment.  The other five states had both lower educational attainment and lower per capita income than Kansas.  Texas and Oklahoma also improved their ranking from 27nd to 23^rd and 42^nd to 33^rd, respectively.  Florida and Nevada both dropped in the national ranking despite having no income tax, from 21^st to 24^th and 14^th to 31^st.  Missouri was almost unchanged, moving from 31^st to 32^nd.

This sample of states illustrates KASB concerns about the Governor’s revenue bills.  Additional cuts in state spending are likely to result in higher local funding (property taxes) or lower educational funding per pupil – or both.  States spending less than Kansas have lower educational outcomes.  Lower educational outcomes will, in the long run, reduce personal income.

Therefore, KASB support a tax plan that supports improving educational outcomes by providing a growing base of state funding and avoid further cuts in school budgets.  We need additional revenue now, and should not adopt further tax cuts until school funding is stabilized and able to meet the cost of improved outcomes.