Revenue Trends in Midwestern States

© Anderson Economic Group, 2006

Revenue Trends in Midwestern States

Prepared for

MSATA 46th Annual ConferenceAugust 21, 2006

Traverse City, MI

Patrick L. Anderson, PrincipalAnderson Economic Group LLC


Outline

I. Introduction

II. State Revenue Trends, 1990’s v. 2000’s

III. Underlying Economics of State Tax RevenueA. Private Sector Employment

B. Unemployment, Wages, and Poverty

C. Business Taxes

IV. Case Studies of Recent Tax ChangesA. Ohio

B. Michigan

V. Conclusions


I. Introduction

Anderson Economic Group, LLC• Economic consulting firm specializing in public finance,

tax, and fiscal impact analysis.• Clients include state and local governments throughout

the United States.

Patrick L. Anderson• Founder and CEO of AEG• Author of Business Economics & Finance (CRC Press,

2004)• Author of 2006 SBT Repeal Law for Michigan• Author of 2006 50-State Business Tax Benchmarking

Study


II. State Revenue Trends: 1990’s v. 2000’s

• Revenue growth for Midwestern states varied between the 1990’s and 2000’s.

• “Midwestern” states include Illinois, Indiana, Iowa, Kansas, Michigan, Minnesota, Missouri, Nebraska, North Dakota, Ohio, Oklahoma, South Dakota, and Wisconsin.


Annual Growth of State and Local “Own Source” Revenue

Source: Census of Governments, State and Local Survey


II. State Revenue Trends: Revenue Sources

• States vary greatly in how they have shifted between revenue sources.– Tax vs. non-tax sources.

– “Business” taxes vs. other sources.


Change in % of Revenue from Taxes, 1992-2004

Source: Census of Governments, State and Local Survey


Change in % of Revenue from Business Taxes (AEG Estimates), 2002-2004

Sources: Census of Governments, State and Local Survey (Revenue) Anderson Economic Group, LLC (Estimated Business Taxes)


III. Underlying Economics of State Tax Revenue

A. Private Sector Employment• The fundamental strength of an economy

comes from its private sector employment.

• Midwestern states had better private sector employment growth in the 1990’s than thus far in the 2000’s.


Annual Growth in Private Sector Employment

Source: Bureau of Labor Statistics


III. Underlying Economics of State Tax Revenue (Continued)

A. Private Sector Employment (Continued)• In general, Midwestern states that did

very well in the 90’s do better than average in the 2000’s.

• Some states stuck out: Michigan has experienced the most serious recent decline, followed by Ohio and Illinois.



B. Unemployment, Wages, and Poverty

• Unemployment in the Midwest was lower than the national average in the 1990’s, but higher more recently.

• High-wage sectors (e.g. information and manufacturing) have seen employment shrink.

• Low-wage sectors (e.g. leisure & hospitality and retail trade) have seen employment grow.

o Note: for this section, we use the BLS definition of “Midwest,” which does not include Oklahoma.


Unemployment Rate: U.S. and Midwest

Source: Bureau of Labor Statistics


High-Tech

• High-Tech employment is an underappreciated source of jobs and tax revenue.

• See AEG’s report on Michigan’s Automation Alley region.– Used a proper definition of high-

tech industries.– Found that high-wage jobs grew,

except in automobile manufacturing.


Wages and Employment in the Midwest, by Sector

Change in Total Employment, 2003 to 2004

Median Hourly Wages (2004)Industry

Manufacturing -148,709 16.00

Education and Health Services -70,430 15.00

Other Services (Repair and Maintenance, etc.) -66,861 12.00

Information (Media, Telecommunications) -44,290 16.50

Public Administration -10,949 18.13

Mining -9,214 18.40

Agriculture, Forestry and Fishing -5,314 9.00

Transportation and Utilities -3,428 16.83

Construction 44,899 16.67

Professional and Business Services 45,003 15.00

Wholesale and Retail Trade 66,423 11.54

Financial Activities 81,154 16.00

Leisure and Hospitality (Food Service) 120,296 8.00

Total -1,420 14.29

Source: U.S. Census Bureau



C. Business Taxes• AEG Business Tax Benchmarking Study

– Commissioned by Michigan House of Representatives

– Identify metrics that we could use to compare 50 states’ business taxation.



C. Business Taxes (Continued)• AEG Benchmarking Study Approach

– Used Census of Government’s State and Local Tax Data, IRS SOI, as our base data.

– Apportioned taxes on the basis of initial incidence.• “Business” taxes include: income

(including on pass-through entities), property, selective sales, unemployment, licenses.

• Sales tax considered a consumer tax.– Disclosed data and methodology.



C. Business Taxes (Continued)• AEG Benchmarking Study Approach

– Compared all states and D.C.

• Overall tax burden– Total State and Local Taxes / Statewide Personal

Income

• Three business tax burden measures:– Business Taxes / Statewide Personal Income

– Business Taxes / State GSP

– Business Taxes / State Profits


Business Taxes as a Share of Personal Income

State Business Taxes / Statewide Personal Income Ranking (1=low)

Illinois 4.29% 39

Indiana 3.69% 26

Iowa 3.82% 30

Kansas 4.11% 37

Michigan 3.80% 29

Minnesota 3.34% 20

Missouri 2.87% 7

Nebraska 3.66% 25

North Dakota 4.27% 38

Ohio 3.30% 19

Oklahoma 2.78% 4

South Dakota 3.13% 13

Wisconsin 3.84% 32

U.S. Average 3.70%

Source: AEG EstimateBase Data: U.S. Census of Governments


Business Taxes as a Share of Private GSP

State Business Taxes /Private GSP Ranking (1=low)

Illinois 3.97% 39

Indiana 3.37% 23

Iowa 3.55% 28

Kansas 4.10% 40

Michigan 3.69% 33

Minnesota 3.07% 14

Missouri 2.81% 5

Nebraska 3.55% 29


Ohio 3.16% 18

Oklahoma 3.05% 13


Wisconsin 3.59% 30

U.S. Average 3.50%



Business Taxes as a Share of State Business Profits

State Business Taxes /State Business Profits Ranking (1=low)

Illinois 28.40% 28

Indiana 27.24% 22

Iowa 28.02% 25

Kansas 34.86% 41

Michigan 28.35% 27

Minnesota 21.08% 2

Missouri 21.36% 3

Nebraska 28.12% 26


Ohio 23.36% 11

Oklahoma 25.11% 17


Wisconsin 27.54% 24

U.S. Average 27.70%




C. Business Taxes (Continued)• Most Midwest states have higher business tax

burdens than the U.S. average.

• A few, notably Missouri, South Dakota, and Minnesota, have relatively low business taxes.

• Business taxes affect location decisions and economic growth.

• However, it is not the only factor, or even the most important factor.


IV. Tax Changes

• Taxes have been a hot topic since 2001 with changes occurring at the federal, state, and local levels.

• These changes affect the revenue coming into state government.

• Tax policy also affects the rate and composition of employment growth

• Consider, as case studies, two states with recent business tax changes driven primarily by the desire to stimulate economic growth: Ohio and Michigan.


A. Case Study: Ohio

1. Major Tax Changes– Began phasing out its corporation franchise

and tangible personal property taxes.

– Began phasing in the commercial activities tax (CAT).

– Cut the individual income tax rate by 21% for all tax brackets by 2009.

– Cut the state sales tax rate from 6% to 5.5%.

– Increased the cigarette excise tax.


A. Case Study: Ohio (cont.)

2. What is the CAT?– It is a privilege tax on taxable gross receipts

that applies to most business activity in the state.

– CAT taxes sales, performance of services, and rentals or leases.

– Corporations, sole proprietorships, partnerships pay the tax.

– Base rate is 0.26% of gross receipts.


A. Case Study: Ohio (cont.)

3. Impact of the CAT on State Revenue– It’s too early to tell, but…so far, the tax has

raised more revenue than expected.

– Receipts in FY 2006 for the first 6 months totaled $185.1 million, which were over OBM estimates by $41.6 million (or 29%).

– All corporate taxes were up 16.5% in FY 2006 over FY 2005.

Source: State of Ohio, Office of Budget and Management


B. Case Study: Michigan

1. The Single Business Tax (SBT)– A modified value-added tax.

– Brought in $1.9 billion in revenue for the state in 2004.

– 8.5% of state tax revenue.

– Less variable source of revenue than a profits tax.

– Current SBT places a disproportionate burden on manufacturing. (See 2005 AEG SBT study.)


B. Case Study: Michigan (cont.)

2. Repeal of the SBT– Initiated law (via petition).

– Purpose: repeal and replace with “less costly” tax.

– Zero rate after December 31, 2007.

– Michigan Legislature approved initiated law on August 9, 2006.



3. Possible Replacements: Form– Tax on corporate profits or business profits

– Tax on gross receipts

– Extension of the sales tax to services

– “Fair Tax”

– SBT Redux

– Hybrid income-VAT as in 2005 reform proposal.



4. Impact on State Revenue– Ballot language calls for a “less costly” tax.– Current revenue is about $1.9 Billion.– Estimates are difficult given current data on

SBT• We estimate a 0.5% tax on gross

receipts would produce approx. $828 million in revenue.

• We estimate a 3.9% tax on corporate profits would generate $704 million.


V. Conclusions

• Midwestern states have greatly varying revenue source trends.

– Tax vs. non-tax sources.– Business tax vs. other sources.

• Underlying economic growth for most Midwestern states has slowed in the current decade. A few states are doing poorly.

• “Business tax” changes are driven by economic growth desires

– Case studies: Ohio and Michigan• Expect more demand for business tax changes

in the coming 5 years.


AEG Reports Related to this Presentation

1. Benchmarking for Success: A Comparison of State Business Taxes (2006)

2. The Tax Burdens of Michigan’s Single Business Tax (2005)

3. Automation Alley’s First Annual Technology Industry Report (2005)

Available at: http://www.andersoneconomicgroup.com


Contact Information

Patrick L. Anderson, PrincipalCaroline Sallee, Senior Analyst

Alexander Rosaen, Senior Analyst

Anderson Economic Group LLC

1555 Watertower Place, Suite 100East Lansing, Michigan 48823

Phone: (517) 333-6984

Reports and company information may be found at:http://www.AndersonEconomicGroup.com

Documents

Revenue Trends in Midwestern States