ConocoPhillips headquarters in the Energy Corridor area of Houston

Why do some companies choose to locate their businesses  in Texas rather than Oklahoma? During the first two meetings of the Task Force on Comprehensive Tax Reform, co-chair Representative David Dank has stated repeatedly that the absence of the personal income tax accounts for the cases where Texas wins out in relocation and investment decisions.

Finding hard evidence to support his case, however, has proven elusive. At a recent Task Force meeting, Wes Stucky, CEO of the Ardmore Development Authority and a widely respected leader in the economic development field, spoke of his long-standing efforts to bring investment and jobs to Ardmore. Stucky told the Task Force:

For 24 years, I’ve been conducting interviews with executives of companies that we tried to recruit to Ardmore that ended up locating elsewhere. Not once in all those years did a company that rejected Ardmore base its decisions on taxes.

Chairman Dank brought up the case of oil companies such as Conoco and Phillips Petroleum that moved their headquarters from Oklahoma to Houston in recent decades. According to the Tulsa World:

Dank in particular pressed Stucky on the matter, asking why many energy companies have moved their headquarters to Houston in recent years. Dank suggested that it was because top executives did not want to pay personal income tax. Stucky said the moves had more to do with “excellence” and Houston “being the center of the oil industry.”

Stucky’s assessment corresponds with the explanation of the oil company executives themselves. In 2001, Phillips Petroleum, then based in Bartlesville, announced a merger with Houston-based Conoco, Inc., with the new company’s headquarters to be located in Houston. Phillips President Jim Mulva stated:

I will tell you that state income tax had absolutely no impact in terms of the decision of merging the company and where the corporate headquarters is located.

Here is how Mulva explained the decision:

Mulva said the merger “could not happen” unless the headquarters moved from Bartlesville to Houston.

Houston “is viewed as the — almost the world capital for the oil companies, and to some extent also for petrochemical companies. The service industries are there . . and it would be most difficult from the Conoco perspective to be moving the headquarters back.

Being situated in an industry hub will matter for oil companies, as it will for high-tech companies drawn to Silicon Valley or financial companies based in New York. At the same time, many other factors, including proximity to markets, a skilled workforce, cultural amenities, ease of airline travel, climate, targeted business incentives, and the full range of business operating and production costs will influence where companies decide to base their headquarters and create jobs. Substantial economic research on what drives company location decisions consistently ranks taxes as among the least significant considerations.

At the same meeting, former House Speaker Chris Benge, now serving as Vice-President of the Metro Tulsa Chamber of Commerce, stated:

If our ability to educate and train employees for a 21st century economy is damaged through lack of funding, if we can’t maintain our roads and bridges, strong health care system, robust research and technology infrastructure, safe streets, etc., then the benefits of a reduction in the income tax rates may be limited.

In the competition with Texas and other states to attract businesses, Oklahoma is going to win some and lose some. Making sure that we have a quality workforce, infrastructure, health care system, and overall favorable business climate is a far more sensible strategy to generate wins than doing away with the personal income tax.

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According to a spreadsheet accompanying the Speaker’s press release, had the Energy Stabilization Fund been in effect over the past decade, its balance wold have grown to $909 million by FY ’09, of which $576 million would have flowed back to the GR Fund this year and next (FY ’10-11) as collections fell. What’s not clear from the House analysis is what impact an Energy Stabilization Fund would have had on deposits to the Rainy Day Fund over the past decade. This is worth exploring, especially in light of current efforts to increase the cap on the Rainy Day Fund. However, when we recently ran some numbers on a similar proposal, we found that mid-2000s revenue growth was vibrant enough to have allowed for the Rainy Day Fund to be filled up to its 10 percent cap and beyond even with surplus gross production revenues directed to a separate reserve.

The creation of a second reserve fund specifically based on gross production revenues echoes a proposal offered recently by OK Policy as one of our recommendations for reforming our budget and tax system based on lessons from the current downturn.  Our suggestion, which took shape in legislation introduced this session by Senator Kenneth Corn, would have directed gross production revenue growth above 12 percent to a reserve fund, while similarly providing for an automatic transfers from the energy reserve fund back to GR when collections fell below three-year averages.  At the time, we wrote:

Together, increasing the cap on the Rainy Day Fund and creating a specific Gross Production Tax Reserve would greatly increase available reserves heading into a downturn and cushion the magnitude of budget cuts once revenues fall. Increasing the size of our reserve funds would involve accepting more modest spending growth during the peak years of growing revenues. That is a trade-off most Oklahomans are likely to endorse.

HB 3032, which passed the Appropriations and Budget, now goes to the full House. We congratulate the Speaker and his colleagues on promoting this idea, and hope that the next time our economic hits a rough patch, the Energy Stabilization Fund is in place to help avert a full-fledged budget crisis.

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Based on the revised estimates for FY ’10 certified by the Board of Equalization in December, the state is looking at a total mid-year shortfall of $809 million in FY ’10, made up of  $729 million in the General Revenue Fund and $80 million in the HB 1017 Education Reform Fund. The leadership agreement involves the following main features for bringing the FY ’10 budget into balance:

• Continued across-the-board cuts in monthly General Revenue (GR) allocations of  to each agency of 10 percent for the remaining five months of FY ’10. This means agency budgets will have been cut 5 percent for four months and 10 percent for seven months (there were no cuts to July allocations). This equates to a 7.5 percent cut in GR over the full course of FY ’10. Total across-the-board GR cuts will equal $385.7 million.
• The agreement also includes supplemental funding for four agencies.  The Department of Education will get an additional $104.4 million. The bulk of these funds are intended to make up for the $80 million projected shortfall in the HB 1017 Fund, crating a net increase of $24.4 million.  Additional funds will also be provided to the Oklahoma Health Care Authority ($33 million), Regents for Higher Education ($25.6 million) and Department of Corrections ($7.2 million). Excluding the funds intended to address the HB 1017 Fund shortfall, total supplementals will equal $90.2 million

In total, OK Policy calculates that the agreement calls for appropriations to be cut by $295.5 million. Please see this spreadsheet (PDF) that provides agency-level calculations of FY ’10 cuts and revised appropriations under the agreement.

Given projected shortfalls of $809 million and cuts of $295.5 million, the question that still needs to be sorted out is where exactly the $513.5 million in additional revenue needed to bring the FY ’10 budget into balance will come from.  The leadership announcement remained short on details. According to the press release:

…state leaders also agreed to use reserve dollars from the Rainy Day Fund and the state stimulus account to help balance the budget.

The amount of additional stimulus and Rainy Day Fund dollars that will be injected into the FY ’10 budget is not specified in the release; however, Speaker Benge is quoted saying:

This agreement maintains more than half of our state’s total reserve dollars for fiscal year 2011 and beyond

The Rainy Day Fund has a current balance of $597 million; if less than $300 million of that amount will be used in FY ’10, then the agreement would seem to require well over $200 million in additional federal stimulus dollars or other unspecified revenues for FY ’10. The initial FY ’10 budget included $640 million in stimulus dollars, which was seen to represent one-half of total available dollars from the stimulus package that could be used to stabilize the state budget.

The conclusion of an agreement on the FY ’10 shortfall will certainly make the Legislature’s task in the upcoming session much less complicated and hopefully bodes well for the ability of the Governor, Senate and House to reach consensus. But it’s necessary to point out two things. First, even with the injection of well over $1 billion in  stimulus and Rainy Day Funds to buttress the FY ’10 budget, the cuts agencies are facing this year are having serious and worsening effects on public services over a wide swath of state government. Many agencies that took 5 – 7 percent cuts going into FY ’10 are now looking at 12 – 15 percent cuts compared to last year’s budget, while even those agencies that were spared steep cuts going into the year are reducing or eliminating core services. The Oklahoma Health Care Authority, which has already cut provider rates and scaled back benefits in recent months,  indicated yesterday it will have to implement another round of cuts to manage ongoing 10 percent monthly budget reductions over the remainder of this year.

Secondly, this agreement should result in final FY ’10 appropriations of some $6.935 billion. The initial FY ’11 certification of available ongoing state dollars is for $5.295 billion, or 24 percent less than the revised FY ’10 total. The one certainty at this point is that the challenge of finding revenues to fill that shortfall and mitigate the severity of cuts in FY ’11 will remain daunting.

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“I think it is bad timing,” said Benge, R-Tulsa. “We are looking at a very tough budget year. To date, it is about 25 percent or 26 percent below the estimate. We are looking at a very difficult time to fill a budget hole in which we are going to have to cut budgets. We are going to have to use reserves. I just don’t think that the timing is good to reduce revenue.”

Benge’s position led to a sharply critical response from Rep. David Dank, who, along with Rep. Mike Reynolds, has led the charge in recent session for measures that would send a lowering of property tax caps to a vote of the people.  Rep. Dank bluntly stated that Speaker Benge must either let a bill come to a House vote or step down as leader of the House Republicans, arguing that current laws allow built-in automatic tax increases for hard-pressed homeowners and that the Speaker’s position violates core party principles.

The World’s editorial criticized the property tax proposal on two grounds. The first is the impact it would have on funding for education:

At a time when the other taxes that support public schools (and libraries, county government and many other key elements of government) are getting hammered by the recession, a new restriction on property taxes would be a disaster for the state.

The World also raises the equity issues involved when assessments on long-term residents are capped well below market value while people who purchase property are assessed at full value:  “Two identical homes sitting side by side can pay enormously different property tax bills because of the inequitable discount given to established landowners.”

Last April, we put out a 1-page fact sheet on property taxes in Oklahoma that set outs how property taxes are determined; the existing set of exemptions and preferences to the tax, and Oklahoma’s property tax rankings. In 2005, U.S. Bureau of Census data showed that Oklahoma’s per capita property taxes were 4th lowest in the nation and just 43 percent of the national average. You can also find information on the property tax from this page of our Online Budget Guide.

With the Legislature still more than a week away from convening, it’s already clear that while revenues will be in short supply this session, political drama will not.

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There is currently $597 million in the Rainy Day Fund.  Since adoption of a constitutional amendment in 2004, the RDF can be accessed as follows:

• Up to 3/8ths of the Fund, or $224 million of the current amount, may be appropriated to make up for a shortfall in the current year’s collections upon declaration of a revenue failure by the Board of Equalization.
• Up to 3/8ths of the Fund, or $224 million, may be appropriated in the budget for the forthcoming year if General Revenue collections are forecast to be less than the amount originally projected for the current year. A letter [PDF] from the Attorney General’s office indicates that this portion of the RDF can still be appropriated by the Legislature for  FY ’10. (Earlier OK Policy materials assumed this money was no longer available for FY ’10.) It is likely that conditions for using this money will also be met for FY ’11.
• Up to 1/4 of the Fund, or $149 million, may be appropriated upon the declaration of an emergency. This requires either an emergency declaration by the Governor with 2/3rds approval of both Chambers, or 3/4ths approval by both chambers without the Governor.

The unfortunate reality is that even using the maximum available amount from the Rainy Day Fund is unlikely to make up for revenue shortfalls without cuts and/or other new revenues. OK Policy has forecast that current year GR collections are likely to come in around $700 million below appropriations. In total, using the full 3/8ths “revenue failure money” and 3/8ths “forthcoming year money” could provide up to just under $450 million from the Rainy Day Fund for the current year. The $250 million difference between the estimated shortfall and this draw from the RDF would be equivalent to full-year across-the-board cuts of 5.0 percent, unless additional revenues can be identified. If only 3/8ths of the Rainy Day Fund is used this year, our projected shortfall would be $476 million, equivalent to full-year across-the-board cuts of 9.4 percent in the absence of other revenue. Other scenarios are equally possible, but all will involve a trade-off between using more RDF revenues to help fill this year’s shortfalls versus saving more for what is certain to be a long and slow fiscal recovery.

The Governor’s strategy is to hold off making any decisions about how to fill the budget gap until the Board of Equalization meets on December 21st to certify a formal estimate of revenue collections for this year and next, with a special legislative session to follow in January.  In this, he seems to be supported by Speaker Benge.  Senate Republicans, however, are calling for a Special Session in December.

The bottom line is that if  economic conditions look to be improving, it may be possible to use most of the RDF this year to minimize the severity of budget cuts, with a combination of remaining RDF and stimulus dollars used to avert deeper cuts next year. That’s the optimistic “we-get-wet-but-only-catch-a-minor-cold” scenario -  although one that still involves painful cuts and that creates the prospect of enormous revenue holes for FY ‘12 once stimulus and reserve fund dollars expire. If, however, the projections are for a much slower and weaker revenue recovery over the next 18 months, nothing short of new revenue streams is going to keep public services, and the Oklahoma citizens who depend on them, from being exposed to the full wrath of a hard, hard rain.

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When fully phased in, House staff estimated the initiative will cost the state an additional $850 million, or about a 12 percent budget increase. There are three ways to pay for an $850 increase in education funding if growth revenues don’t do it:

• increase taxes, which could require an increase in the state sales tax from 4.5 to 6.18 percent or an increase in the top income tax rate from 5.5 percent to 7.35 percent;
• reduce budgets for all services except common education by up to 20.2 percent; or
• a combination of tax increases and budget cuts.

There is room to question whether this is realistic; the Oklahoma Education Association argues revenue growth in the next four years will eliminate the need to raise taxes or cut other budgets. While there is at least some merit to this claim, it is important to be prepared for a less rosy scenario, as the House staff suggested.

The second day’s hearings allowed the leadership of major state agencies to report on the possible consequences of a 20 percent budget cut. Not surprisingly, the picture was not pretty. It involves significant losses in services like infrastructure, substance abuse treatment, senior nutrition, corrections, and highway patrol. Higher Education Chancellor Glen Johnson said a “new model” would be required for our colleges and universities to operate with 20 percent less. His description seems apt for all state services.

Many House members declared cuts of that magnitude unacceptable. Speaker Chris Benge, R-Tulsa, issued a press release saying, in part:

The level of services to Oklahomans that would have to be cut to accommodate State Question 744 is stark and would be hugely damaging to our state.

This discussion comes at the same time that all state agencies, including common education, are taking five percent cuts to their monthly allocations from the General Revenue Fund. While agencies have generally been quiet about impacts of these cuts, a few more examples of the strains that monthly budget cuts are creating trickled out during the SQ 744 hearings:

• Terry White, Commissioner of the Department of Mental Health and Substance Abuse Services, described the department as “close to the end of our rope” and suggested it cannot cut its budget five percent for the whole year without affecting services.
• Neville Massey, of the Department of Corrections, reported that a buyout offer and a hiring freeze has resulted in only 77 percent of the agency’s authorized positions being filled.
• Kevin Ward, of the Department of Public Safety, reported that troopers are starting to cover more ground and drivers license stations are starting to lose a significant number of staff.
• Howard Hendrick, director of the Department of Human Services, indicated cuts would be forthcoming in the senior nutrition program. Since this hearing, DHS has taken action to cut this program by 25 percent, reducing the number of meals by 85,000 per year. The agency also is making immediate cuts in sheltered workshops and employment programs for the disabled.

Legislators rightly suggested 20 percent cuts to agency budgets would impose unacceptably damaging effects on our ability to provide essential public services that ensure the state’s security, prosperity and well-being. Are cuts one-fourth as deep acceptable? Do they not also cause real harm? The examples above suggest a deteriorating level of service to the mentally ill, seniors, and all of us who depend on a strong public safety effort. We don’t think these impacts–and more we expect to hear about in coming months–will be acceptable to most Oklahomans.

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