OKPOLICY.ORG
As Oklahoma faces record budget shortfalls, the threat of massive cuts that would slow the state’s economic recovery and, in the Governor’s words, “have irreparable and damaging effects on our state services infrastructure,” looms large. This post is the fourth in a series that discusses some of the most promising policy ideas for a balanced approach to closing the deficit that includes new revenue sources. Previous entries examined the vendor sales tax discount, the deduction for state income taxes, and collecting taxes on Internet sales.
Oklahoma’s appropriated budget in 2008 was just under $7 billion. That same year, the state granted tax preferences in the form of credits, deductions, exemptions, and the like that had an estimated fiscal impact of at least $5.6 billion in taxes that were not paid that would otherwise have been owed. As the recession has battered state revenue collections, leading to automatic across-the-board cuts of 7.5 percent of General Revenue this year and the prospect of cuts of up to 12 percent to all state agencies next year, this extensive system of tax preferences, or tax expenditures as they are frequently called, has been left largely untouched.
Earlier this year, OK Policy released a full-length issue brief that called for greater transparency and accountability in the area of tax expenditures. Among our recommendations were several aimed at limiting the state’s fiscal exposure to tax preferences, including putting annual caps on the amount that can be claimed against various tax credits, and tying some tax credits to a trigger mechanism that would limit or suspend them in times of budget shortfalls.
Tax preferences become especially problematic when their costs explode from one year to the next. Tax credit programs that were initially anticipated to cost a few million dollars can grow to tens of millions of dollars annually, outside the scrutiny of the legislature, media, or public, and often with little, if any, tangible economic benefit to show for it. This can occur through administrative or legal rulings or creative strategies devised by attorneys and accountants that allow credits to be claimed in excess of the amount investment or without placing capital at risk. This was the case in the mid-2000’s with the Venture Capital Tax Credit, a program whose costs soared from $2 million to $66 million in one year when investors uncovered a way to exploit a loophole in the law. When evidence of abuses came to light, the Legislature tried tightening up the law and then allowed the program to sunset at the end of 2008.
However, even with that program terminated, several other investment tax credits have seen their costs skyrocket in recent years. According to the revised version of the Oklahoma Tax Commission’s bi-annual Tax Expenditure Report, the cost of the Investment/New Jobs tax credit soared from $40 million in FY ’06 to $119 million in FY ’08. Another credit, the Rural Small Business Capital Formation Tax Credit, saw its reported fiscal impact balloon from $3 million in FY ’06 to $45 million in FY ’08. It should be noted that there is no way to get consistent and accurate information on the cost of many credits – the fiscal impact of income tax credits on the online version of the 2008 Tax Expenditure Report is significantly different than in the earlier printed version, and different still than the amounts that can be calculated from the Openbooks website.
As the cost of several investment tax credits has soared, there have been extensive and well-documented charges of questionable practices and wrong-doing leveled at these programs. The Prowling Owl website has been particularly persistent in digging up information which suggests potential fraud and abuse that could be costing the state hundreds of million in tax credits in return for minimal real investments. In his FY ’11 Executive Budget, Governor Henry calls for the outright repeal of the Rural Small Business Capital Credit and the Small Business Capital Credit, which are described as providing credits to companies “that invest in ventures that may or may not be economically viable”. The Governor’s budget projects additional revenues of $48.5 million from repealing these two credits, which roughly corresponds to the fiscal impact of the two credits from the most recent Tax Expenditure Report ($58.4 million).
Doing away with all tax credits is neither politically feasible or necessarily good policy. But in light of the budget crisis and the likely impact of not finding new revenues to close a portion of the budget gap, eliminating these runaway tax credits and taking steps to limit the fiscal impact of others through caps or triggers would be a sensible step for the Legislature to take.
