On revenue options, the right choice is “All of the Above”

With less than three weeks left in the legislative session, there is still no overall budget agreement. Facing a budget hole of close to $1 billion, a bipartisan consensus has emerged at the Capitol on the need for substantial new revenue to avert budget cuts that could have a catastrophic affect on Oklahoma communities and families. There is not yet, however, a firm consensus on which revenues to raise.

Republicans are promoting a $1.50-per-pack increase in the tobacco tax and a six-cent per gallon hike in the fuel tax. Democrats are holding out on both these measures, which require a three-fourths majority in both chambers to pass under the terms of State Question 640. Democrats are instead calling for an end to Oklahoma’s large tax break for oil and gas drilling, a change which Republicans are resisting. To attract Democratic votes, Republicans have introduced, but have not yet advanced, several revenue bills that contain aspects of the Democrats’ Restore Oklahoma budget plan. These include partly restoring the state Earned Income Tax Credit, narrowing the capital gains income tax exemption, and adopting combined corporate reporting. 

Which of these revenue measures should be approved? The right answer is “all of the above.”

Democrats have objected to raising the cigarette and motor fuel taxes because these taxes families hit working families harder. There’s truth to that concern, especially regarding the cigarette tax., since smoking rates tend to be higher among lower-income individuals. But, as we argued earlier this year, studies have found that lower-income, minority, and younger populations are the most likely to quit or cut back on smoking when the price of cigarettes goes up; as a result, the health benefits gained by those who quit smoking are highly progressive. In addition, the new revenues from raising the cigarette tax would be dedicated to health care agencies to support Medicaid and other programs that primarily serve low-income Oklahomans. The $1.50-per-pack cigarette tax increase, HB 2372, is projected to bring in $215 million in FY 2018 with an effective date of September 1st.

Raising the fuel tax will certainly be felt by working families, especially in a state where public transportation is so limited. But since higher-income families are more likely to own cars and drive longer distances, these families will pay a slightly larger share of the tax, according to an analysis by the Institute on Taxation and Economic Policy (ITEP). The ITEP analysis also reveals that 46 percent of the increased motor fuel tax would be paid by out-of-state drivers, not by Oklahoma residents. It’s also important to consider that Oklahoma’s taxes on gas and diesel are among the nation’s lowest and haven’t been raised in 30 years, during which time they have lost over half their inflation-adjusted value. A 6-cent-per-gallon increase in the tax on gasoline and diesel would raise $125 million in FY 2018 with a September 1st effective rate.

Meanwhile, some Republicans who are hesitant to restore the gross production tax to its historical rate of 7 percent point to industry-sponsored studies claiming the oil and gas sector already pays more than its fair share of taxes. However, these claims have recently been refuted based on actual Tax Commission data, showing, for example, that oil and gas companies paid just $4 million in corporate income tax in 2015, a mere 4 percent of total collections. Ending what is an annual $400 – $500 million tax break by restoring Oklahoma’s historical tax rate on gross production would only bring Oklahoma taxes in line with other energy-producing states and is unlikely to affect companies’ decisions on when and where to drill. Restoring the gross production tax could have a FY 2018 revenue impact of $20 million – $350 million, depending on what rate is set and whether the higher rate applies to wells already in operation.

While Republican legislative leaders have not yet agreed to restore the full 7 percent rate on gross production, they have proposed putting a 12-month moratorium on payment of gross production tax rebates currently offered for various forms of production, including secondary recovery projects, tertiary recovery projects, reestablished production, production enhancement projects, and three-dimensional seismic shoots. Rebates accrued during the moratorium period would be paid out over 36 months beginning in July 2018. The moratorium bill, HB 2377,  is projected to bring a $46.2 million revenue gain in FY 2018.

Several other bills were introduced to the Joint Committee on Appropriations and Budget (JCAB) in April that were partly or fully aligned with proposals that House Democrats included in their Restore Oklahoma plan and that also figured in Blueprint for a Better Budget released last month by the Save Our State coalition, of which OK Policy is a part. These include:

• Narrowing the capital gains exemption on the sale of Oklahoma property. HB 2366 extends from two to four years the length of time Oklahoma-based property would have to be held before capital gains from their sale would qualify as tax-free.  The fiscal impact of this measure is undetermined. Eliminating the capital gains exemption completely, as the House Democrats, the SOS Budget Blueprint and OK Policy have proposed, would raise an estimated $109 million.
• Adopting combined corporate reporting as a means to prevent multi-state businesses from shifting income out-of-state to avoid paying Oklahoma taxes. The fiscal impact of HB 2369 is undetermined. The SOS Budget Blueprint estimates that combined reporting could bring in $71 million but delays its implementation until FY 2020.
• Partially restoring the state Earned Income Tax Credit, which was cut last year by the Legislature. HB 2368 would make the EITC partially refundable, reducing revenues by some $14.4 million.

A final major proposal agreed to by both Republicans and Democrats would limit itemized deductions to $17,000. The bill, HB 2347, is projected to raise $168 million. While the cap on itemized deductions would primarily affect upper-income households, especially those with large home mortgages and high property taxes, the proposal has generated strong objections from non-profit organizations concerned about limiting the deductability of charitable contributions. The fact that the cap under HB 2347 would be no higher for married couples as for single individuals would also create an unfortunate ‘marriage penalty.’

This exact mix of revenue options may not be anyone’s first choice; many will point to other policies, including restoring a higher top income tax rate, as preferable to, say, the proposed cap on itemized deductions. But each of these measures on their own has merit. Together, they’re needed to generate enough revenue to avert catastrophic cuts this year and put the budget on a more sustainable path. And as a package, they stand the best – and perhaps only – chance of gaining the bipartisan approval needed to overcome the supermajority requirements of State Question 640.

It’s time for leaders in both parties to come together and support all of the above.