This month, however, there are signs the revenue recovery is stumbling. Last week, Treasurer Ken Miller announced that Gross Receipts to the Treasury fell modestly in March, down 0.3 percent compared to the same month one year ago. The drop was due primarily to gross production taxes, which came in $38.1 million, or 36 percent, below last March. Miller noted that low natural gas prices have now led to four consecutive months of declining gross production revenues and he anticipates continued difficulties:

Due to the timing of gross production collections, March receipts reflect market activity from January. We should expect a period of shrinking natural gas tax collections until prices rebound… In addition, state law mandates the currently assessed tax rate of seven percent be lowered to four percent if the average monthly price falls below $2.10 per mcf.

Along with low gas prices, the generous tax credits that producers can claim for horizontal drilling, which  accounts for a rapidly increasing share of state production, may be dampening oil and gas tax revenues. March revenue collections also showed corporate income tax collections down 9.0 percent from a year ago, while personal income tax collections rose by a modest 1.4 percent.

On the heels of the Treasurer’s gross receipts report, State Finance Director Preston Doerflinger this week reported that monthly General Revenue collections were down $4.1 million, or 0.9 percent, from March 2011, and down $6.4 million, or 1.5 percent, from the certified estimate. The decline was largely attributable to the Legislature’s decision to divert $34 million in March gross production tax revenues to pay for supplemental appropriations to the Department of Education. The Office of State Finance noted that “if oil revenue was included, totals for the month would be 29.9 percent or 6.8 percent above last year and $27.5 million or 6.2 percent above the estimate.” Still, as can be seen from the chart below, revenue growth is slowing. After four straight quarters where revenues were up over 10 percent compared to the same quarter for the prior year, revenue this past quarter (January – March) grew by a more modest 5.7 percent.  If the $34 million in diverted oil money had been included, revenue for the quarter would have increased 8.4 percent.

There are certainly still encouraging signs in the state’s revenue picture. Sales tax collections continue to grow robustly – March sales tax collections were up 16.8 percent to the GR fund and 15.1 percent in total gross receipts compared to one year ago. And the state continues to enjoy strong personal income growth and declining unemployment. Still, with gross production revenues faltering and overall revenue collections still not fully recovered from the downturn, policymakers should conclude that this is hardly the time for another round of tax cuts.

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The preliminary FY ’13 estimates, developed by the Oklahoma Tax Commission and Office of State Finance, will form the basis for the Governor’s Executive Budget that will be delivered in early February; the Board will meet again in mid-February to provide revised estimates that will be binding on the 2012 Legislature. As we see in the chart below, collections to the General Revenue (GR) fund are expected to continue their recovery next year from their collapse during the recession of 2008-09. Next year’s GR is estimated at $5,540 million, which is 19.9 percent greater than FY ’10.  Yet next year’s revenues are expected to remain 7 percent below their levels of six years ago (FY ’07), even as the cost of providing services rises due to inflation, population growth, and increased caseloads.

We can see, too, that next year’s revenues are projected to grow only very modestly – $82 million, or 1.5 percent, compared to this year.  This slow growth projection reflects, in part, uncertainty about the strength of the economic recovery over the coming months and the assumption of less robust oil and gas revenues in the coming year. But it also reflects policy decisions made by previous Legislatures. In particular, the reduction in the state’s top marginal income tax rate from 5.5 percent to 5.25 percent, set to take effect on January 1st, will reduce revenues by $70 million in FY ’13 on top of a $50 million partial-year impact in FY ’12. Additionally, the state is obligated to pay back deferred tax credits to the oil and gas industry beginning in FY ’13, with a fiscal impact of $50 million. Also, the income tax revenue going directly to the ROADS Fund for transportation projects will increase by $41.7 million in FY ’13.

What do these revenue projections mean for the FY ’13 budget? The Board of Equalization was presented initial estimates of  how much will be available for the Legislature to spend in the upcoming year. This amount includes available cash balances and projected collections from non-certified funds, such as the 1017 Education Reform Fund. The estimate of $6,531 million for FY ’12 is almost identical to the current year appropriated budget of $6,511 million. As we can see from the chart, based on the initial certification, next year’s budget would remain almost $600 million below its pre-downturn peak and would not even return to FY ’07 levelsBy the time the Legislature meets and begins work on next year’s budget, there is a good likelihood that additional revenues will be available. Based on strong revenue collections in recent months, February’s re-certification is expected to be higher than December’s. In addition, there should be a considerable cash reserves built up over the past two years that the Legislature can appropriate for next year.

Still, the consensus among the state’s elected leaders is to expect a flat state budget next year. Many agencies need additional funds to deal with rising costs and increased caseloads and enrollment, as well as to restore essential staffing and programs that have been eliminated over the past three years of budget cuts. The state has fallen short of its obligations for teacher health care costs and stipends for Board certified teachers. We are $28 million behind in payments to local governments for emergencies. We have been among the worst in the nation for maintaining our roads and bridges.

In this context, the statement by Senate Pro Tem Brian Bingman deserves to be taken seriously:

We should celebrate the positive indicators of recovery while proceeding with thoughtfulness and caution in the coming fiscal year.

This caution means this in not the time to consider major expansions of government programs. Agencies will have to continue to find savings where they can and find ways to operate at less than full capacity. Likewise, politicians need to show discipline. As we claw out of our deep budget hole and struggle to bring state finances back into into balance,  promising tax cuts may be politically appealing, but is not the fiscally responsible way.

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While the monthly revenue reports show encouraging signs of economic and fiscal growth, this remains an incomplete recovery. For the first four months of the fiscal year, collections are up 17.0 percent from the depths of the downturn in FY ’10, yet they remain 15.9 percent below their pre-recession peak in FY ’09. As the chart below shows, FY ’12 year-to-date revenues remain slightly below their levels of six years ago.

Through the first four months of the fiscal year, sales tax collections ($591.1 million) are at an all-time high, but no other major tax has returned to pre-downturn peaks. Personal income tax collections through October ($653.8 million), while up 11 percent from two years ago, are 18 percent below FY ’07 and less than they were a full decade ago, in FY ’01. This reflects a combination of factors: continued fragility in the job market, the impact of the permanent income tax cuts passed in the mid-2000s, and the allocation of a growing share of income tax revenue to the ROADS fund and higher education scholarships rather than the General Revenue Fund.

Overall,with revenues remaining well below pre-downturn levels, meeting our obligations and ensuring the adequate funding of state services will remain an enormous challenge. We will have more to say on this next week, when OK Policy publishes our forecast of revenues over the coming years along with our recommendations for navigating a steady fiscal course.

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While there was moderate growth in receipts, collections dipped from the overall double-digit growth rate for FY-2011.

While revenues continue to recover from their sharp decline during the downturn, the recovery remains only partial, as can be seen from this table:

FY ’12 collections remain 15.8 percent below their pre-downturn heights and have barely recovered to the levels of six years ago.

Of particular concern are personal income tax collections. GR collections from the personal income tax last month were just $130.6 million, slightly lower than last year and the lowest July amount for the tax since FY ’03. This reinforces the idea that the state labor market remains weak, despite the drop in the state official unemployment rate, while also pointing to the toll that tax cuts and tax credits continue to take on the personal income tax. At the same time, July sales tax collections reached an all-time high.

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For the full year, General Revenue increased by $487.1 million, or 10.5 percent, from the depths of FY ’10. However, as we can see, revenue collections remain substantially below pre-downturn levels. This year’s GR came in 14.2 percent below FY ’08 and remains considerably below collections of five years ago, FY ’06.

As the Finance Director noted, by the end of the year, all the major revenue sources were showing signs of strength, including the personal income tax and gross production tax on natural gas, which had been lagging until recently. Again, however, if we extend our comparison further back, we see that the recovery remains partial and that we are still some distance from having recovered from the collapse of 2009 and 2010. Of the major state taxes that flow to GR, only sales tax collections have fully recovered to pre-downturn levels. Most notably, this year’s GR personal income tax collections remained 23.0 percent below FY ’06 and are at almost exactly the same amount as eight years ago. This reflects not only the severity of the 2008-09 recession but also the ongoing impact that tax cuts and tax breaks have had on weakening state income tax collections.

Thanks to revenue collections exceeding projections, the state will be able to make a substantial FY ’11 deposit of some $219 million to the Rainy Day Fund. Full-year collections also exceeded  the final revised estimate for the year certified by the Board of Equalization in February by $149 million, primarily as a result of income tax collections coming in much stronger than expected over the final months of the year. The strong finish to FY ’11 provides good reason to imagine that if current economic trends continue, we will see collections in FY ’12 outperform the official estimates developed five months ago (After adjusting for legislative changes, the Board of Equalization in June certified FY ’12 GR at $5.235 billion, which is only 2.5 percent above FY ’11 actual collections).  However, this will have little, if any, impact on the current year budget. So while revenues are on an upwards swing, this is too little and too late to spare state agencies from having to absorb more swings from the budget cutting axe.

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• May marks the 13th straight month that revenues showed improvement compared to the same month for the prior year. In each of the last seven months, revenues have come in at least 9 percent higher than the prior year.

• Through May, each of the major taxes that are deposited in the GR Fund are up compared to last year. Growth has been greatest for the corporate income tax and the motor vehicle tax, while personal income tax and gross production tax revenues are up only modestly from last year.

• Despite the recovery in state revenues, FY ’11 collections remain a full 15.3 percent  below pre-downturn heights of FY ’08. This year’s GR collections remain more than 10 percent below those of five years ago and are only six percent higher than ten years ago. During this ten-year period, Oklahoma’s population has grown some 9 percent, gross state product has increased some 60 percent, and the Consumer Price Index has increased some 26 percent.

• Nonetheless, with the exception of the sales tax, each of the major taxes has yielded less in FY ’11 than it did prior to the economic downturn in FY ’07 and FY ’08. This points to both the impartial nature of the economic recovery but also the ongoing impact of income tax cuts and tax breaks.

• The surplus in FY ’11  GR collections compared to the certified estimate means that the state is now virtually certain to be able to replenish the depleted Rainy Day Fund at the end of the fiscal year next month. However, the anticipated surplus has no bearing on next year’s budget, which was developed based on a binding revised estimate certified in February by the Board of Equalization. State appropriations for FY ’12 will be $6.511 billion, which is a decrease of $255 million from the current year and of $614 million from FY ’09. As a result, state agencies and school districts are continuing to implement deeper cuts to programs and personnel to deal with shortfalls.

You can view a brand new version of our presentation on the state budget here; review of our FY ’12 budget highlights here; and see all our current budget information here.

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Personal income growth in Oklahoma paints an encouraging picture of economic recovery over the last year.   Personal income is reported quarterly and encompasses all of the different kinds of income received by Oklahomans.  When personal income rises, so does the amount citizens have available to spend, save, or invest in the economy.  Tax revenues also increase with personal income, meaning states have more to spend on infrastructure and social services.  Since a large majority of small business income is reported as personal income, it is an excellent overall measure of the health and growth of the state’s economy.

Personal income in Oklahoma grew by 1.1 percent in the last quarter of 2010, marking six quarters of continuous growth.  Oklahoma outpaced the nation in personal income growth in every quarter in 2010 and ranked 7th best of all the states in terms of growth in the 4th quarter.  State general revenue collections are also beginning to pick up steam, as we blogged about here, with March collections exceeding the certified estimate by 10.5 percent.

The second key indicator, employment, is not quite as straightforwardly encouraging as personal income, but generally reveals that Oklahoma is better off than most states.  Employment, often referred to as a ‘lagging’ indicator because it registers economic improvement only after the improvement has occurred, is recovering slowly but surely in Oklahoma.  The national and state unemployment rates both fell for the third straight month in February 2011, reaching 8.9 percent and 6.5 percent respectively.  Oklahoma has the 10th lowest unemployment rate in the country.

Although the unemployment rate is steadily edging downward, the employment picture measured in terms of jobs is mixed.  Oklahoma lost 5,200 non-farm jobs between January and February 2011.  The unemployment rate has crept steadily downward since October 2010, but the non-farm employment sector has actually lost 13,400 jobs in the same period.

How can we reconcile job losses occurring alongside a falling unemployment rate?  It could be a sign that the economy is becoming more efficient and employees are more productive.  With fewer people doing more work, the economy can shed excess jobs.  However, the falling unemployment rate could also be attributed in part to people who have given up on looking for work and dropped out of the labor force altogether.

According to preliminary 2010 data from the Bureau of Labor Statistics, 45.3 percent of people who were unemployed in Oklahoma had been looking for work for more than 15 weeks, while 26.1 percent of people looking for work had been looking for over six months.  If an unemployed person stops looking for a job, they drop out of the statistical employment picture.  The unemployment rate only measures people who are jobless and actively seeking employment.  While there is no state-specific data, the national employment-to-population ratio (EPOP) shows some evidence that falling unemployment might be attributed a shrinking labor force.  The percentage of the population that is employed has dropped from 63.3 percent in December 2007 to 58.5 percent in March 2011, a drop of 4.8 percentage points.  The employment-to-population ratio has not been consistently below 60 percent since the early eighties.

A falling unemployment rate is an unequivocally positive sign for Oklahoma, and impressive growth in personal income is the best news we can hope for when emerging from a prolonged recession. However, if the state economy continues to lose jobs in the coming months and the employment-to-population ratio doesn’t show signs of recovering, we must begin to consider the long-term effects of underemployment.  If a full economic recovery is to be realized, we need enough jobs available for every person who needs one.  Continued underemployment is a drag on economic growth, dampens revenue collections, and puts excess pressure on social services and work supports.

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All major tax categories increased in March over the same month a year ago with the exception of the personal income tax. In a press release, the State Finance Directors downplayed the importance of this drop:

Doerflinger said he was not overly concerned because Tax Commission reports indicate unusually large withholding collections last year, coupled with higher refunds this year for the same time period.

Doerflinger added:  “Income tax collections tend to ebb and flow from month to month, but so far this year they appear to be in line with a recovering economy.  However, it will be a slow process to completely rebound from such a deep recession.”

Personal income tax collections have consistently lagged other major taxes this year in rebounding from the depths of the revenue collapse in 2009-2010:

It’s worth noting that unlike other major state taxes, which were growing prior to the onset of the recession in late 2008, personal income tax collections had been declining since 2006 as a result of the large tax cuts enacted in the mid-2000′s.

Even as revenues recover, they remain significantly below pre-downturn levels. Year-to-date collections for the first nine months of FY ’11 are $666 million, or 15.8, percent below their pre-downturn levels of FY ’09. This is about one-third better than where we stood a year ago: in March 2010, year-to-date revenues were $975 million below their pre-downturn levels.  Yet even with eleven months of steady growth, FY ’11 collections are only at a par with collections a full six years ago.

As monthly revenues continue to exceed the certified estimate, it is becoming increasingly likely that the state will be able to make a deposit to the Rainy Day Fund at the end of the fiscal year of GR collections in excess of 100 percent of the certified estimate. It also seems almost certain that the state will collect some $244 million in “5 percent money” that reflects the cushion between the certified estimate for this year and actual appropriations. Typically, this year’s 5 percent money would not be appropriated until FY ’13; however, given the state’s looming budget shortfall in FY ’12, there has been talk of using some or all of this year’s 5 percent money to plug part of next year’s budget hole of at least $500 million.

For our newly updated 2-page Budget Trends and Highlights fact sheet, our full-length presentation on the state’s budget outlook and other materials, please check out the Current Budget Information page of our website.

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February collections also surpassed the certified estimate by $8.7 million, or 3.6 percent. Income taxes came in well above the estimate while gross production and motor vehicle taxes fell short. For the year, GR is $100.8  million, or 3.4 percent, above the estimate.  Since the Legislature only appropriates up to 95 percent of the certified estimate, there is now virtually no chance of the state facing another mid-year revenue shortfall in FY ’11. Instead, it seems increasingly likely that revenues slightly exceed estimates for the year, allowing for a deposit of the surplus in the state Rainy Day Fund in July.

It is important to bear in mind that revenues are far from fully recovering from their deep plunge during the downturn, notwithstanding the steady growth in collections through the first two-thirds of FY ’11. Year-to-date collections remain $709.5 million, or 18.6 percent, below FY ’09 and are less than the comparable period six years ago, in FY ’05:

For our newly updated 2-page Budget Trends and Highlights fact sheet, our downloadable presentation on the state’s budget outlook and other materials, please check out the Current Budget Information page of our website.

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But inadequate revenues is not the only problem. It’s just as important that the cost of supporting government is fairly distributed and does not privilege some businesses or individuals over others without good justification.

As we explain in an issue brief released today, Oklahoma’s sales tax has fallen victim to both of these problems. The economy has evolved so that services and online goods which are not covered by the sales tax make up a larger proportion of purchases. In addition, the legislature has granted a growing number of exemptions, many with questionable economic rationale. One report found that just 35.7 percent of all purchases in Oklahoma were covered by the sales tax in 2003, compared to 52.0 percent in1990. Trends in the economy make it likely that the situation has only gotten worse since then.

Why does it matter? For one, the sales tax is the single largest revenue source for state and local governments in Oklahoma. In FY ’08 the sales tax comprised more than 1/4th of all state tax dollars and almost 2/5ths of local tax dollars. Cities, which cannot assess property or income taxes, are especially dependent on the sales tax.

Even apart from its importance to revenues, arbitrary sales tax exemptions distort the economy, reduce efficiency, and harm Oklahoma businesses and consumers. To understand why, consider an example: We pay sales tax when buying carpet cleaning supplies, but not when we pay a carpet cleaning service. This creates an artificial incentive to purchase untaxed services rather than taxed goods and unfairly advantages the service providers over retail stores.

In addition, since many services are purchased primarily by affluent households, the tax burden is shifted to middle- and lower-income Oklahomans. We see frequent battles over whether to exempt groceries from the sales tax, but little to no discussion of why services like horse boarding, pool cleaning, and investment counseling are already exempt.

Another aspect to this problem is that the state can’t require tax to be collected on many Internet sales when the seller has no physical presence within the state. That means purely online retailers like Amazon can avoid charging sales tax, while Main Street businesses that directly employ Oklahomans cannot. Oklahoma is among 21 states that does not charge sales tax for online downloads, which unfairly benefits retailers like iTunes over local merchants. That also advantages wealthier Oklahomans at the expense of those who do not have access to a computer, high-speed internet, and a credit card.

For all of these reasons, expanding the base of the sales tax would be beneficial, even if done in a revenue-neutral way. For example, we could extend the sales tax to cover more purchases while simultaneously reducing the overall rate. We will continue to debate what overall level of taxation is needed to maintain core public services, but even those who favor lower taxes should realize that sales tax loopholes are unfair, inefficient, and bad for Oklahoma business.

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